Review & Outlook
April 10, 2023
The first quarter has seen a complete reversal of trends we saw throughout 2022. Sectors that were punished heavily last year such as Consumer Discretionary and Technology have led the way, while Energy and Consumer Staples have lagged. The consensus on inflation has also flipped, going from “transitory” to “embedded” and now to a middle ground. Large ticket items such as automobiles are still seeing price pressures due to disruptions in production, while wages, rents and home prices are decelerating as a result of high interest rates.
We are optimistic about both inflation and the prospects for our Quality Growth stocks. Markets have shown tremendous resilience to start the year considering many negative events that could have tipped stocks back towards lower prices, most notably the failure of several regional banks. We do not see these issues as a systemic problem akin to the Great Financial Crisis of 2007-2008, but they nevertheless should give Federal Reserve officials enough reason to take a wait and see approach as lending is expected to decline.
Looking to the rest of the year, we believe the following themes will drive our decision-making:
- Because Carderock Quality Growth Stocks exhibit higher Returns on Capital and Earnings Growth than the average S&P 500 company, prices will continue to command a premium should economic growth decelerate.
- Strategically, we will continue to avoid Financials and Energy Stocks as Growth tends to be short-lived and volatile in these sectors, as exhibited during the 1st Quarter.
- Having lowered our target cash reserve in our Equity portfolio to 25%, we have been putting money back into markets, with purchases exceeding sales at a ratio of nearly 5 to 1 since the beginning of December.
- The benefits of scale in large Technology firms have paid off via advancements in Artificial Intelligence, which will boost productivity and profitability, while adversely affecting other sectors (Media).
- Labor markets should remain resilient and signs of a looming spike higher in unemployment will continue to be hard to find.
- Inflation should continue to decelerate toward the Federal Reserve’s goals in tandem with slower economic growth, increasing the likelihood that we will avoid further stress in financial assets.
- Investment in the US industrial base as well as green technology will continue unabated while a “soft decoupling” with China will likely gain more traction.
Lastly, we had a small year-end restructuring where we’ve combined the responsibilities of portfolio management and administration for each of our managers. This means you will want to contact Dan, Skip or Stephen directly whenever a need arises. For us and for many others as well, this change reflects the separation of our long-term Administrator, Lynda Elliott. She will be greatly missed and there’s simply no escape from how critical her dedication, service and personable style have been in getting so many of the important details done at Carderock Capital over the years. We extend our deepest gratitude for the exceptional service she provided and wish her all the best as she pursues new opportunities and passions.
And to you, we extend our continuing commitment to excellence when servicing your needs. As always, we welcome your calls and thank you for your continued support and confidence in Carderock Capital Management.
Daniel A. Kane, CFA
James W. Mersereau, CFA
Stephen F. Knapp, CFA
Director of Research