Quarter Notes: 2022 Q4 Market Update

Stocks and bonds rally. Privates turn in positive returns in a gloomy environment.

Analysis by Terrence Demorest

10 January 2023

Stocks and bonds rallied in the fourth quarter, but it wasn’t enough to salvage a year of otherwise hugely disappointing returns. For stocks, 2022 was the worst year since the Global Financial Crisis of 2008. For bonds, it was the worst year—everBy far. Yet private lending and many other investments in private markets turned in healthy, positive returns in this otherwise gloomy environment, helping investors like Westmount clients, who had meaningful exposure to these strategies.

Diversification Still Matters (Perhaps More Than Ever)

As we’ve discussed in prior communications, one of the most significant outcomes in 2022 was that bonds did not provide relief for investors who sought comfort in this normally conservative asset class. Historically, in nearly every year where stocks were negative, bonds have been flat or positive, cushioning some of a portfolio’s fall. But in 2022, the bond market provided no real relief. Seeing the unattractiveness of the bond market, we had positioned our clients’ bond portfolios to hold up better in a rising interest rate environment, and that tactical move worked extremely well (this is in addition to providing exposure to more promising asset classes and strategies).

We take a closer look at the various markets below:

Stocks – Stocks soared over +18.5% in 2021, making for an exceptional year. The market gave back all of these gains in 2022. From the first day of the year to the last, stocks traded under a cloud of concerns about high inflation, rising interest rates, the war in Ukraine, and a looming global recession. As inflation numbers continued to climb through the middle part of the year, the Federal Reserve, while slow to start, followed suit by embarking on an aggressive campaign to raise rates, something it has not done since the early 1980s. The second half of the year brought some relief to inflation numbers, but it still wasn’t enough to call off the Fed or bail out the markets.

Overall, global stocks finished the year -18.36%. Westmount stocks, which are intended to track the markets closely, closed in line with the global benchmark.

While 2022 was a very poor year for the stock market, owning stocks over the long-term has been extremely beneficial to investors. The chart below shows the annual returns of large U.S. companies (via the S&P 500 index) going back to 1928. As you can see, there is an enormous range of returns coming from owning the very same market over time, ranging from a few cases where the market was down well over 20% to many years in which it gained 30% or more.

a chart showing the S&P 500 calendar year returns (stock market) from 1928 to 2022

More importantly, the market has been positive many more times than it has been negative (73% of the years have been positive). It is impossible to predict what the market will do in any short-term period going forward, so the best strategy for stock investors—one that clearly works—has been to own stocks through thick and thin, in order to earn the average of the good and bad years. Since 1928, that has meant an average return of +9.13%. We seek to do this by owning holdings that track the equity markets and do so with broad diversification, high tax efficiency and low cost.

Bonds – As we pointed out above, the Federal Reserve raised rates aggressively in 2022, in an effort to slow demand for goods and services and, ultimately, reduce inflation. Early signs show the Fed may be succeeding in its quest, but only time will tell whether they will succeed anytime soon—and what the cost will be to the overall economy. Rapidly rising interest rates hurt current bond values—something many investors experienced in 2022. While the bond market traditionally delivers mid-single digit annualized returns, 2022 was anything but a normal year. The bond market ended the year down -13.01%, hands down the worst performance of the bond market in over 45 years (the next worst year was in 1994, when the bond market fell -2.92%), as you’ll see in the chart below. Against this backdrop, Westmount bonds held up tremendously well, declining only -4.67%. Positioning our bonds to have low interest rate sensitivity, along with selective credit exposure, was responsible for this enormous outperformance.

a chart demonstrating the US bond market returns from 1976 to 2022

Alternative Assets – Despite the malaise in the public markets in 2022, alternative assets provided some much-needed diversification, delivering attractive returns and reducing volatility. As mentioned in past Quarter Notes, our alternatives portfolio consists primarily of private credit exposure (private corporate and real estate lending). These loans are both high yielding and often floating rate in nature, allowing lenders to benefit from rising rates, in contrast to traditional bonds that fall when rates rise. In 2021, alternatives delivered returns north of +11% and continued to add value in 2022, returning +7.4% to the portfolio.

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This report was prepared by Westmount Partners, LLC (“Westmount”). Westmount is registered as an investment advisor with the U.S. Securities and Exchange Commission. The information contained in this report was prepared using sources that Westmount believes are reliable, but Westmount does not guarantee its accuracy. The information reflects subjective judgments, assumptions and Westmount’s opinion on the date made and may change without notice. Westmount undertakes no obligation to update this information. It is for information purposes only and should not be used or construed as investment, legal or tax advice, nor as an offer to sell or a solicitation of an offer to buy any security. No part of this report may be copied in any form, by any means, or redistributed, published, circulated or commercially exploited in any manner without Westmount’s prior written consent.

Performance figures shown for “Westmount Bonds” and “Westmount Alternatives” were derived from a model portfolio of fixed income and alternative asset strategies used by Westmount. The actual performance of individual client accounts will vary. Performance figures include the reinvestment of dividends and are net of all investment costs, including Westmount’s advisory fee. Calculation of Westmount’s advisory fee is based on average annualized fee rate of client portfolios. Westmount’s fees are described in Part 2 of our Form ADV, which is available upon request.

Stock, bond, and alternative market performance data was calculated by Bloomberg as of December 31, 2022. Past performance is no guarantee of future results, and investing in stocks, alternatives, and bonds carries the possibility of loss of principal. Securities transactions carry risk and are not suitable for all investors. Before making an investment decision, you should consider whether this information is appropriate in your circumstances.

Indices used: U.S. Stock Market: S&P 500; U.S. Bond Market: Bloomberg Aggregate Bond Index. The various market indices and Westmount alternatives performance figures are provided to assist clients in evaluating Westmount’s performance relative to the markets in which we invest. Westmount’s portfolios are not intended to perfectly mirror the relevant indices, may have more or less volatility than the indices, and may invest in markets and strategies not represented by any of the indices shown. The indices are unmanaged and do not carry fees or expenses.

If you have any comments or questions about this article, please contact us at info@westmount.com.