Volcker vs. Powell - what's going to be common in my view in 2022 vs. 1982

Dated : Oct - 17 - 2022

History never repeats but it often rhymes as they say. So I think is going to be case of the classic tug of war between an economy which wants to build, consume and prosper amidst all that's happening around us vs. a resolute Mr. Powell and US Fed . We have Ukraine Russia war , China "elections" , really ? , Inflation reduction act , hot CPI prints, stellar gains in bank's earnings today , Charles Schwab's revenue surprise....so who can really say we are in a recession ? A lot of what this feels like is the Fed's battle against a raging bull market underneath .

Lets look at Volcker area return for S&P index . As usual, I show charts of the index, and drawdown of your wealth , assuming you started investing at the start of period and held until the end of the period at which the chart truncates. As you see , during Volcker ear rate hikes , cumulative return was 70% and most of it was made in late 1982 to late 1983 . The first few years were nightmare with a drawdown of over 25%. So even after all the pain in rates hikes , curbs in lending, monetary tightening , recession of 1980s and public outcry , index made you 70% over those 5 years. If you had sold the peak of 1981 and bought the lows of late 1982 , you would made over 110% !! in one of the worst bear markets and recession.

As of the today , S&P 500 YTD is in the range of -25% drawdown for 2022 and thus far, all the economic data and corporate earnings ( even released today), suggest that the Federal reserve is trying to engineer a recession against an economy which has relentless appetite to consume, grow and innovate. However, before we get ahead of ourselves and start buying more stocks , lets look at some more data from another time period.

Who can forget the dot com bubble and years following one of the worst crashes in history of capital markets. This time Greenspan cut rates in the hopes the economy would pick up. However, the job losses were immense and hurt consumer spending that it the index never came back until 2006. There was in general wealth destruction for most buy and hold investors in Index and Mutual funds. The peak to tough drawdown was over -45% in that 5 year period.

Conclusion

The world we are living in now is reflective of a world which is somewhat like the Volcker inflation era as well as excessive valuations built up right before the dot-com bust of 2000s. However, I think we are neither in a word of excessive inflation like the 80s and neither are we flirting with frothy levels of valuations seen in late 90s .Many of the companies' in recent past reported 100% spike in YoY earnings post COIVD, due to a direct monetary policy intervention of $ 4 Trillion ( that's 20% of US GDP) post COVID. As the policy turns more restrictive ( especially with Quantitative tightening and balance sheet runoffs ) and Fed nears the end of the rate hike cycle by early to mid 2023 , Equity investors can expect 1983 style returns as markets can sharply rally back. As of now, risk vs. reward tradeoffs' are evenly matched and long terms investor's should start buying some equity's at these levels.

The strategy for an investor hence, should be 1) have a plan to invest 2) Use average costing and buy more during sharp dips in excess of 25%, 35% and 45%. Don't be afraid to sell and take profits during strong reversals ! That will give you the gains you seek from Mr. "Market"