Economic and Market Environment

Fourth Quarter 2022

THE FIRM'S OUTLOOK: SUMMARY AND CONCLUSION

The Economy

  • Even though Real Gross Domestic Product (GDP) was negative in the first two quarters of this year, we do not believe we are in a recession. However, growth is definitely slowing and is projected to be barely positive for this year.
  • Inflation is dominating the economy and is dictating severe policy responses by the Federal Reserve (Fed).
  • Inflation is not confined to this country. It is a global issue, and it threatens a global recession.
  • Recession fears are on the rise as several indicators are pointing in that direction. We are not predicting a recession, but we recognize the risk of one.
  • The labor market remains exceptionally strong but should weaken somewhat in the face of a slowing economy and restrictive monetary policy.
  • There are a number of strong elements within our economy, not the least of which is strong consumer balance sheets, which suggest no recession at best and a mild, short one at worst.

Stocks and Bonds

  • Reflecting a slowing economy and restrictive monetary policy, both stocks and bonds are suffering bear markets.
  • Earnings growth will be essential to the outlook for stocks. To date, earnings have held up surprisingly well.
  • The future course of inflation and how severe the monetary response that is required will determine the direction of the bond market.
  • Our positions:

    • Stocks will be affected by economic dislocations over the short term but will reward shareholders over the longer term.
    • If the inflation problem can be solved, and we assume it will be over the longer term, bond yields should stabilize at relatively low levels.

The Economy: Good and Bad

The U.S. economy is currently a mixed bag of both strong and weak elements.
However, one factor dominates: inflation.

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Inflation & The Fed: The Main Issue

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  • Inflation is the main economic issue. Running at over 8% year-over-year, it is unacceptably high.
  • The Fed’s mandate is to maintain price stability. Its main weapon in the fight against inflation is interest rates, which they are raising quickly and aggressively.
  • The Federal Funds rate, now at 3.375%, is expected to be at 4.375% by year end.
  • When Fed Chairman Powell says: “Our responsibility to restore price stability is unconditional,” we take him at his word, and we expect eventual success in bringing inflation back down. However, this success will not be achieved without some economic pain.

Inflation: Some Progress But Not Enough

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  • Investors and policymakers have been disappointed by the small amount of progress in bringing inflation down.
  • One promising note: month-over-month inflation in July was zero percent, followed by a minor uptick in August. That means there was essentially zero inflation for two months as measured by the consumer price index.
  • Low month-over-month figures should lead to improved year-over-year readings, but there is a long way to go to get to the Fed’s 2% target.
  • Investors should be prepared for a long fight against inflation.

Inflation and the Sacrifice Ratio

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  • The “sacrifice ratio” measures how much economic pain will be required to bring inflation down to target.
  • Longer-term inflation expectations are critical for the sacrifice ratio.
  • Even though the gap between short-term and longer-term inflation expectations may be wide, if longer-term expectations remain anchored, the sacrifice ratio is lower.
  • Well anchored, longer-term inflation expectations are encouraging and suggest that inflation may possibly be brought to target levels without exceptional economic pain.

Oil Prices: The Good and the Bad

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  • There is good news and bad regarding oil prices.
  • Good news: oil prices have been dropping for over 90 days and have contracted by 35% since their peak.
  • Importantly, declining oil prices are a psychological boost to consumers and help keep in check their longer-term expectations for inflation.
  • Bad news: oil companies have been reducing their investments in future production of oil.
  • The chart opposite indicates a long-term decline in global investment, not a good sign for oil supply in the future.
  • Low investment in energy suggests higher energy prices in the long run, although there are other issues that will affect future oil prices.

Recession Watch: Unemployment & The Yield Curve

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  • Investors are increasingly worried about a recession.
  • The yield curve, which is now largely inverted across the maturity spectrum, has a good record of predicting recessions when fully inverted.
  • The important 90-day treasury bill to 10-year treasury note is still not inverted, but with further Federal Funds increases, it may invert at some point.
  • Keep an eye on unemployment. In the chart below, note the circles. In the past when the unemployment rate has turned up, recession has followed.
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Economic Strengths

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  • As section 2 indicates, there is still a lot that is going right for our economy.
  • Recession fears should not overwhelm some of the basic strengths of our economy.
  • Household debt as a percent of disposable income has been declining for fifteen years and remains low. In a consumer economy, this is very favorable, for it indicates consumer flexibility.
  • Food and energy prices are a focus in the inflation fight. Yet, as a percent of total consumption expenditures, they have been declining for some sixty years. This helps relieve some of the inflation pressures felt today.

Recessions: Data for Perspective

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  • As noted, recession fears are on the rise. There is a need for perspective.
  • Our views:

    1. GDP declines and unemployment rises in recessions. This is not good.
    2. Recessions are sometimes necessary to correct economic excesses and restore stability.
    3. Recessions don't occur that frequently.
    4. Recessions don't last that long
    5. Stocks decline in recessions, sometimes severely, but always recover.
    6. Recessions always end.

Dividends: Their Impact Should Not be Forgotten

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  • Stocks are down sharply this year, but dividends remain stable.
  • Even in today’s uncertain environment, many companies are actually raising their dividends.
  • Investors are well served to keep in mind the importance of dividends:
     
    1. They can indicate quality.
    2. They can provide downside protection and help preserve capital.
    3. They are an important component of total investment return over the long term.
    4. Dividends are a foundational element in the Crawford investment approach.

We Say: Stay Invested, Even in a Bear Market

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  • We repeat this display from last quarter’s report because we believe its message is so important.
  • Notice the length and the height of the blue areas (bull markets) and the shortness and shallowness of the gold areas (bear markets).
  • The grey bars are recessions. Note how short they are compared to the recovery / expansion periods that follow recessions. We believe this display speaks volumes: stay invested for the long term. And stay invested in high quality for downside protection and upside participation.

DISCLOSURE STATEMENT

Crawford Investment Counsel, Inc. (“Crawford”) is an independent registered investment advisor. More information about the advisor including its investment strategies, objectives and fees can be found in its Form ADV, Part 2 which is available upon request.

Past performance is not indicative of future results. All investments carry a certain degree of risk of loss, and there is no assurance that an investment will provide positive performance over any period of time.  This material is distributed for informational purposes only.  The statements contained herein reflect opinions, estimates and projections of Crawford as of the date hereof, and are subject to change without notice. Forecasts, estimates, and certain information contained in this commentary are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Any projections herein are provided by Crawford as an indicator of the direction Crawford’s professional staff believes the markets will move, but Crawford makes no representation such projections will come to pass. Crawford makes every effort to ensure the contents have been compiled or derived from sources believed reliable, and contain information and opinions that are accurate and complete; however, Crawford makes no representation or warranty, express or implied, in respect thereof; takes no responsibility for any errors that may be contained herein or omissions; and accepts no liability whatsoever for any loss arising from any use of or reliance on this report or its contents.  Crawford reserves the right to modify its current investment strategies and techniques based on changing market dynamics or individual portfolio needs.

The opinions expressed herein are those of Crawford Investment Counsel and are subject to change without notice. This material is not financial advice or an offer to sell any product.

Forward-looking statements cannot be guaranteed. This document may contain certain information that constitutes “forward-looking statements” which can be identified by the use of forward-looking terminology such as “may,” “expect,” “will,” “hope,” “forecast,” “intend,” “target,” “believe,” and/or comparable terminology. No assurance, representation, or warranty is made by any person that any of Crawford’s assumptions, expectations, objectives, and/or goals will be achieved. Nothing contained in this document may be relied upon as a guarantee, promise, assurance, or representation as to the future.

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