Financial Market

On the money: Local financial experts weigh in on trying economic climate in 2022 | Local Business News

American consumers have endured a series of economic gut punches in recent months, ranging from supply-chain disruptions to exorbitant gas prices to the highest inflation rate in four decades.

In an effort to quell inflation, the U.S. Federal Reserve this month raised its benchmark interest rate by three-quarters of a percentage point, the largest increase since 1994.

The Tulsa World this past week held a question-and-answer session on the subject with a couple of local financial experts, Jake Dollarhide and Tom Bennett III.

Dollarhide is co-founder and chief executive officer of Longbow Asset Management, and Bennett III is president and co-CEO of First Oklahoma Bank.

How will the hike in benchmark interest rates affect consumers?

DOLLARHIDE: “It makes life more expensive. That means high interest rates on your credit cards, on your car loans, on your home loans. It affects companies’ ability to borrow, increasing their cost of doing business. The irony is that the economy is strong, but inflation is rampant.

“The Fed is walking a very narrow line in trying to slow the economy down and bring inflation down but not put the economy into a recession. That is what is spooking the market. The market is falling because it doesn’t believe the Fed will be successful in its attempt to bring down inflation without sending the economy into a recession.

BENNETT III: “The most direct effect for consumers, if there’s one thing that’s going to move right now, it’s probably going to be the credit card debt they have. That’s going to get more expensive. Most people who have a home loan or a car loan most likely have a fixed interest rate for whatever term they have.

“If you’re shopping for a house or you’re shopping for a car, your purchasing power is going to go down because the cost of the loan will be more.”

Which industries or segment of population could be hit the hardest by this move?

DOLLARHIDE: “I think it is across the board but obviously tech and consumer discretionary could see a big difference. We have a couple of great technology companies in our area, most notably Paycom in Oklahoma City. Its stock has been hit pretty hard. Then you have consumer discretionary: restaurants, movie theaters, things that aren’t necessary.

“The extra pair or shoes you want to buy yourself, the new shirts. Do you buy new swim trunks this summer or use the ones you’ve had the last three years? People start making decisions based on how wealthy they feel …Businesses rely on consumers to have freedom and confidence on the ability to spend and support the economy.

“We had the 100-year flood here in Tulsa in 2019. We had a 100-year pandemic in 2020. Now, we’re suffering from 40-year inflation. This is the highest inflation has been, 8.6%, since December of 1981.”

BENNETT III: “Who’s going to be hurt the worst are people on a fixed income. You have to remember that it’s not just the cost of credit that’s going haywire. It’s the cost of a lot of other things that we every day consume or buy. For example, the cost of food is going up.

“These big ag producers, they have loans. They have to put diesel in that combine. There is a knock-on effect of all of these interest-rate increases that ultimately the consumer is going to pay the price for. For people on a fixed income, their income doesn’t adjust fast enough to absorb the cost of the increases. Even if people are getting raises, most companies aren’t passing out raises that equal the cost of inflation.”

How will we know if these adjustments are working?

DOLLARHIDE: “It’s always in the rear-view mirror. Economic numbers come out every month. So after each raise, they are going to look at the economic data that comes out … . You might have a spike next month in something that had nothing to do with the Fed raising rates. It might have something to do with what happened in January. It might have something to do with the war in Europe. It’s not just inflation and interest rates. It’s a five-headed monster: inflation, interest rates, war in Europe, COVID-19 and Chinese lockdowns.

“We have all of these outside factors that we have no control over. That’s what makes the Fed’s task that much more difficult.”

BENNETT III: “The Fed’s doing two things that are very material. The first one is the one that we see. It’s called the discount rate. That’s the one that gets everyone’s attention because it affects things like credit cards and whatnot. The other thing that probably is more weighty is the Fed reducing its balance sheet and drawing liquidity out of the financial market. Frankly, I think that one’s going to be worse.

“What that will do is it will drive up costs for the financial institutions and it will drive up opportunities for like bonds as opposed to loans…As liquidity is drawn out of the market, the price of bonds is going to go up.”

Is there a recession looming, and is there anything we can do to prepare for it?

DOLLARHIDE: Recessions are just a part of life. They are part of a healthy economic cycle. A recession doesn’t have to look like 2008-2009. It doesn’t have to look like the Great Depression. Think of all the great policies that followed the Great Depression: Social Security, the SEC (Securities and Exchange Commission) and all the things the keep the markets in check.

“A recession can happen and we can begin one, and six months later the Fed can point out, `hey, we were in a recession’ and the average person might not know we were in one, in some cases. Even when we are in a recession, there are certain sectors that won’t be in a recession. Or when we are not in a recession, there will be certain sectors that already are in one. We’ll find out but we’ll find out after the fact.”

BENNETT III: “Personally, I think there’s a huge risk for stagflation. In my personal life, I’m kind of battening down the hatches and getting ready for it. I very much appreciate what they are trying to do, but I don’t know how it’s going to work. I would rather plan for something that doesn’t happen then expect everything to be great and then something bad happens.

“… What does the prudent person do? Well, the prudent person prepares for the storm. Floating-rate debt, if you have the ability to eliminate it, that’s smart. Frankly, your cash will be paying more because banks over time will be increasing the interest rate, but the problem is you’re still not going to beat inflation. So, that’s scary.”

All of this economic turbulence has sent many Americans’ 401Ks into a free fall. What should they do?

DOLLARHIDE: “Look at all the investment choices that you have. How much allocation do you have in stocks versus bonds versus international versus stable value funds or cash money-market funds? For a person five to seven years from retirement, I don’t think you have to do anything. The worst time to make changes to your stock portfolio is when it’s down 20% to 30%. The best time is when things are generally high.

“Why do we invest in the stock market? It’s so the purchasing power of our dollar can beat inflation over time. You’re hoping to invest in the stock market and make 8% to 12% a year, and that would beat inflation, or at least match it … That’s why it’s long-term. The market’s made about 10% a year. There are years like ‘08, when you’re down 30% or 40%. And there are years like 2021 when the market had an amazing recovery from the COVID-19 pandemic.”

BENNETT III: “Over time, like with 401Ks, I think those will ultimately rebound. Frankly, if you haven’t gone to cash, you’ve already absorbed the pain, anyway. If you’ve already absorbed the pain, just wait for the rebound.

“If you didn’t make these moves in January, you’re already here. I wouldn’t give up my upside.”

Is there a silver lining to all this consumer suffering?

DOLLARHIDE: “According to Bloomberg, the average annual return after a bear market is reached for the S&P 500 is 17.5% and 38.5%, after one and three years, respectively. That means after a 20% decline is realized (not the bottom of a bear market but from the start of it).

“Also, Mission Square non-profit study, going back 30 years prior to 2017, there were four rising interest rate periods — as the country is experiencing now — lasting from one to two years from 1986 to 2006. Surprisingly, all fixed income sectors, from treasury bonds to corporates, experienced positive returns during those four rate-hike periods. Given the steep drop in fixed income prices to start this rising rate period, most investors would likely settle for a break-even outcome at this point and, interestingly, what those outcomes show is the true power of coupon income — the actual dollar interest payments made/received — from individual fixed income securities that provide a significant contribution to overall bond returns in any economic or interest rate environment.

“At the end of the day, one rarely ever knows for sure what will ultimately turn around declining financial markets. We can logically reason it could be the Fed reining in inflation, a cease-fire or Ukrainian victory or anticipation of favorable outcomes from midterm elections. But it often comes out of nowhere from the least discussed or expected source(s).”

BENNETT III: “The answer is probably no. I’m a super optimistic person, but if you’re going to try to find a silver lining, savers are probably going to get a better deal than they have for at least the last 20 years. Anybody who’s had CDs or saving accounts, your rates of return on those have been abysmal. You may get a little bit of relief.

“But the flip side is, inflation is outpacing whatever the rate of return is on your cash. So, what the Lord giveth, inflation taketh away in purchasing power. While the dollars are going up, the relative value of the dollars is going down. That is the model of stagflation, period.”

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