Tim Conlin: Well hello, and welcome to the Financial Dstress podcast with Tim and Maria. Hello, Maria.
Maria: Miletic: Hello, Tim. And we have Liam here as well. Who's our producer, our summer intern. What's your last name? Liam. Is that Conlin? He is shaking his head. Yes. So we have only two-thirds of the group that are now Conlin’s. So, Tim, are you feeling a bit stressed out these days?
Tim: You know, a little. I think we could use some destressing.
Maria: I think that we could all use a little bit of distressing. And I think that you're probably just the guy to do it, considering you've only been doing this for a late 2800 years.
Tim: No, 28 years.
Maria: Oh, I'm sorry. I apologize for that.
Tim: Yeah. I mean, here we are at a time where just a matter of a few days ago, the US stock market hit bear market territory. So bear market, meaning that it's dropped 20% from its peak earlier this year. And even bonds are down. Bonds are down over 10% as we're recording this today. And so, yeah, it's stressful. In the 28 years I've been advising clients on their money, I've seen 14 corrections…
Maria: Some worse than others.
Tim: Yes. Some worse than others. 14 where the markets dropped 10% or more, three of them. More than 20%.
Maria: One of those would be 2008.
Tim: 2008 was especially tough. I guess the intent of recording this today is just to talk to people a little bit and share with them some thoughts about moments like this, because I have seen them before. But as you said, it's stressful. And I've never learned to like times like this. I've said this over and over, but it's just part of investing. And maybe we can give a little bit of context to what's happening in the world today.
Maria: Yes. So we talk about the news very often because, of course, we can't get away from the news. It's on TV. We read about it all the time. We want to be informed citizens. So it's not something that we can just have the luxury of turning off day to day. And we want to know what's going on in the world. But at times like this, it really affects people in a much more meaningful way because there just seems to be so much bad news out there that you can't insulate yourself from it. And it's hard for not just our clients, but all people out there to say how is it informing my decision making process…
Tim: And is it helpful? Is what you're reading helpful? There's one thing to be informed, but when it starts to kind of encroach a little bit on your ability to make good decisions and good financial decisions, I think you have to kind of take a step back and look at the news. So one of my clients had a discussion the other day, and he attended a seminar from an economist who talked about the three I’s.
Maria: Three I’s.
Tim: So if you look at the news since you're rolled over in 2022, the three I’s are invasion, inflation and interest rates. And I think that's a pretty good way to summarize what's changed. Some are calling it a regime change in financial markets. But the first two, the invasion and the inflation affect interest rates. And the interest rates are very important in how financial markets operate. And the change in interest rates and the really rapid increase in interest rates have created some chaos and some uncertainty that's caused both stock markets and bond markets to fall and other markets, too. So this is a time where the news and what we're consuming; and sometimes all consuming. Yesterday in the minutes from the Federal Reserve chairman, one of our analysts here at Richardson, he counted the number of times Powell used the word inflation. He counted 60.
Maria: Wow.
Tim: Instances of the word inflation. What was it when you were…
Maria: Stagflation. The number of times that it's appeared in articles over the last few months, monthly from March was about 15,000 times that the word stagflation was used in news articles.
Tim: So clearly it's part of people's consciousness. It's what's consuming people right now. Three, oh, gosh, maybe four months ago it was invasion. Right. And it's a horrible tragedy. What's happening is it hasn't gotten better, but yet we're not talking about it. Right. We have another new way to think about inflation.
Maria: Yeah.
Tim: So as we think about inflation, maybe we should just take a step back. And when we're consuming the news and reading about it, understand that, yes, financial markets do a pretty good job of discounting what we're talking about. If you and I are talking about it and everybody's talking about it, it's mentioned 60 times in the Fed minutes. Chances are it's not new news. It's not new news. So when you're consuming news and reading articles, you have to kind of check yourself and make sure you're not believing that you're reading something new that everybody else doesn't already know. And if it's already something, you know, chances are other people know it. And it's already being priced in to the way.
Maria: It's not going to give you an advantage for being an investor by any means in reading a news article because it's not new information. That's some insider information just to you. Everyone already knows about it.
Tim: Yeah. And it's important to remember that and just kind of check yourself when you find yourself saying that “What could possibly make this get better? Turn this around. And what could I maybe foresee this getting better,” even that is difficult because everybody else is thinking about that same thing.
Maria: It's almost like being a Devil's advocate for yourself after you read an article to say, okay, what are my takeaways here? What did I learn? Because there's going to be something that you learn, another tidbit of information that you probably didn't know before. But what am I going to take out of this going forward, if anything? Or was it just there to help me just be an informed citizen today? And that's good, too. Okay. So probably one of the most important of the three eyes right now that really has people in a tizzy here is inflation. So maybe that's the first one that we can talk a little bit about right now and try to make sense of what's happening with inflation. Do we think that it's going to get any better? And even if it doesn't get better, is there any reason for optimism as maybe a part of the portfolio that we would match? The most recent inflation data from the US that was released in mid May related to April showed a consumer price inflation of 8.3%, the highest inflation we've seen in 35, 40 years. Maybe one slight positive is that it seems to be moderating. So the year to year comparison was 8.3%, but the month to month was about decimal 3%, which implies maybe inflation at about a three and a half to 4% rate. And just by virtue of inflation and let's say fuel, what happens is people start to change their behavior, they start to carpool, they start to figure out ways to consume less fuel, and that's going to lower demand for oil and for fuel and for diesel, for gasoline. And there's already evidence that that's happening. So that's somewhat the self correcting mechanism we see with inflation. And we're beginning to see that. We saw housing data yesterday, which was negative. New home sales in the US were down 17%, a huge drop in mortgage applications are down. So we've seen in the United States year over year 20% inflation in housing prices. So housing and rent is part of consumer price…
Maria: We saw that in calgary too.
Tim: Maria just bought a house.
Maria: That’s a story for another day. Continue.
Tim: But yeah, so we'll see housing is about 40% of the CPI, and that was up 20% in the last year to be really negative and assume it's going to be just as bad next year. We'd have to see another 20% rise in housing. And that doesn't seem to be the case based on this latest information. That how new home sales is down and how inventories are up. It does self-correct to some degree. In the case of other areas where we're seeing inflation. So I mentioned fuel. While oil prices are up 100% from a year ago, for inflation to be the same next year oil would have to go up another 100%. Natural gas would have to go up another 300%. Protein costs at the grocery store would have to go up another 20%. So just the law of numbers would suggest we're going to see inflation..we should see it moderate now. It might not, though we don't know. It's unpredictable. People haven't seen this for 35, 40 years. So…
Maria: If it doesn't, let's say that it doesn't moderate in the next couple of months, here is do you think that there's any reason for optimism within an investment portfolio if inflation doesn't moderate for the companies?
Tim: Well, it's one of the reasons we need to be diversified. So what businesses, what stocks can you own that might actually benefit from inflation or be less influenced by inflation? So there's some businesses that I think more resemble royalty businesses, I would say. And a good example would be the digital payments processors, Mastercard and Visa. They actually drive their revenue from higher prices. So if it costs you 20% more at the grocery store, Mastercard and Visa's processing fee for that transaction, if you put your groceries on a credit card is going to be 20% higher.
Maria: With no costs of their own for spending…
Tim: It won't cost them a nickel more to process that payment. They don't have to hire any more people or invest any more money in their business for them to participate in that revenue growth without a commensurate growth in their costs. So I think in our portfolio, there's a number of companies we have that do resemble some of that more royalty model, where they should actually be built really well for inflation and adapt to it. But I mean, the other thing, too, is just at the end of the day when there's a major sea change, I look at what happens and what happens during a time of crisis or change is that great companies innovate, they get better. And in one quote I just look at is Andy Grove, the former President CEO of intel. He said bad companies are destroyed by crisis. Good companies survive them, and great companies are improved by them. And so here is a moment where innovative, creative companies can adapt to a change. And there's a lot of really brilliant minds and well-managed companies now that are putting their full force of effort into dealing with the supply chain disruptions and some of the problems that are creating inflation. And we can't foresee it. And just like we didn't foresee all the innovations that happened as a consequence of the pandemic. But yes, out of 2020 emerged all kinds of new, great technologies and great changes that allowed some companies to really distance themselves from their competition.
Maria: And I think that's a good point that you made to maybe go into a little bit the second topic of interest rates and maybe to avoid getting too technical. And what should be maybe just a ten-minute kind of update here is that interest rates, some are fearing that if they raise them too quickly, then it's going to lead to a recession. And so that's obviously a very real concern that people are having. But the point, the quote that you just made too does breed some sort of optimism that even if we do go into a recession, the world will not end because these companies are still going to continue to innovate and adapt and hopefully become even better at the end of it, because a recession after a pandemic is a relatively new thing that people haven't seen before. Right. So there's still a reason for optimism, even if that does happen.
Tim: Yeah. It seems, frankly, the probability is increasing that we may already be in a recession. The problem with recessions is usually we don't know we're even in one until hindsight tells us. Oh, yeah, the first quarter in fact, the first quarter of 2022 was a negative quarter for productivity, for GDP. So, yes, a recession isn't the end of the world. It's a slowdown, and there will be winners and losers that come out of it. I think if you own a good array of businesses and industries and do a good job selecting good management teams of companies that you own, they'll be able to figure out a way to thrive and adapt to inflation, but also interest rates, higher cost of capital, number of the companies we own really don't have a major change in their cost of capital. In other words, they don't fuel their growth with debt. They don't borrow money to grow. Costco doesn't build warehouses with debt. They build it with cash flow. There are companies like Alphabet and Microsoft that have cash on their balance sheet, and they're building out their business with cash, and they don't rely on debt markets to do. so. I think that's going to put them in a favorable position if interest rates continue to go higher relative to their competitors, who need to access debt markets to fuel their growth.
Maria: So the third “I” that we haven't really touched on yet is, of course, this invasion part of what's happened with Russia and Ukraine. And maybe it's better to talk about it in more of a broad geopolitical risk kind of setting.
Tim: There’s all kinds of risks. Right. We don't know how long this conflict will continue. It doesn't look very helpful when we read the news. And also China is pursuing really zero COVID policies and lockdowns that seems to be exacerbating some of these supply chain issues seems to be a little bit of improvement there, as China's already announced a path forward to reopen at least Shanghai. And as we've experienced in the west, as this virus has mutated more contagious and more virulent, we've somewhat learned to live with it as an endemic situation where China is pursuing a lockdown. So how long they continue with that? It seems a little bit absurd from our perspective now that we've reopened, but we don't know how that's going to play out.
Maria: Yes. So with that is that there's nothing that can be predicted with all of these geopolitical risks and these things that were…
Tim: Yeah, the one thing we can see in the past is that we're pretty resilient people and humanity and people do bounce back from terrible things. And I think even when you talk about financial markets and how they operate is that that is reflected in how markets recover after times like this. And just when things seem the most desperate and dire some green shoots of recovery appear, and it's why the stock market tends to perform its best after a crisis. In fact, even the average recovery of the stock market after in the twelve months after a recession is double the normal returns.
Maria: Yeah, and it's pretty quick…
Tim: After reducing and you don't see it coming. But of those 14 corrections I've seen while advising clients for 28 years, the average recovery is only about four months from that trough. And we don't know if this one will be the same and fall into the average. But every one of those moments when it turned and recovered, it wasn't that suddenly things changed and the news got better and rosy, and then the markets went up. The markets anticipate that and recover prior to the news getting better. But it's got to stop getting worse before it starts getting better. And stock markets have a way, and even bond markets have a way of anticipating that. And typically the stock market is six to twelve months ahead of the economy. In other words, it starts to go up almost a full year before the economy goes up. So that's why it's important not to again, let the news of the day influence your investment decision-making because you're probably already six to twelve months late and it's not maybe very comforting. It's maybe a little easier for us to gravitate to commentators and gurus and news reports that say we think we know where the bottom is, and you might have a pundit that properly predicted the stock market crash in 2008. And then they're being quoted as saying when they think things are going to improve, the reality is they don't know. And things have a way of improving organically and without anyone really predicting it, just like really, no one really predicts it going the other way. I think what we can see our longer-term trends again, to see your investments through a long-term lens, is that over time that resiliency and that innovation leads to growth. And I have no doubt that we'll see that again. Unfortunately, we can't say when.
Maria: Yeah, that's why it's so important. Now. If there's one thing that people can take away from this or that they should be able to take away from this is that you shouldn't change your thinking of your long-term strategy over these short-term types of news or things that are normal…
Tim: I've said this a few times, but otherwise, if you're led by the news of the day, it might lead you to buy when you feel good and sell when you feel bad. And I really can't think of a worse investment strategy than that. So again, with the news and your consumption of news, be informed. If you care about the world and as a citizen, as a voter, be informed. But if it's getting to the point where it's starting to affect your decision-making and your ability to sleep at night, maybe you need to put some boundaries around what you're consuming.
Maria: Yeah, that's good advice. And hopefully, this was helpful to all of our listeners and should hopefully help everyone sleep at night a little bit better. And let's hope that we're on the up and up here, but thanks for all of your Sage wisdom and advice.
Tim: Thank you.
Maria: Yes. Good as ever. So we hope to see you guys again soon or hear you soon or hear us soon.
Tim: Sure.
Maria:: Yeah.
Tim: All right. Take care. Bye.