By: Russ Kamp, Managing Director, Ryan ALM, Inc.
Last Friday we produced an update on market performance through 1H’22. What jumps out is the fact that both bonds and stocks are down to start the year, and down big. It got us thinking about the last time that both bonds (Bloomberg Barclays Aggregate) and stocks (S&P 500) were down in the same year. On a total return basis (including income of dividends and interest), the S&P 500 and the BB Aggregate have NEVER been down in the same calendar year! We’ve come mighty close (1994) when the S&P 500 squeaked out a marginal gain of 1.94% while the Aggregate Index fell by -2.92%. The -2.9% decline in ’94 has been the greatest negative annual return in the history of the Agg index dating back to 1976 when Ron Ryan and the team at Lehman Brothers created it.
For the first half of 2022, the S&P 500 Index plunged by -19.96%, while the Aggregate index declined by -10.35% setting the stage for the first occurrence ever of these two major indexes declining simultaneously in a calendar year. As we’ve stressed, the last 40 years of capital market activity should not be viewed as “normal” given the precipice from which US interest rates fell, while inflation remained muted. Capital market performance during the remaining six months of 2022 will be driven primarily by the US Federal Reserve’s interest rate action. The Fed’s individual Governors have stated on numerous occasions that they will remain singularly focused on tamping down inflation despite the fact that this action might result in the US economy falling into recession. As a reminder, recessionary environments are not a cure for weak stock markets.
We’ll of course need to wait to see what transpires in the markets during the remaining six months of 2022 to see if for the first time both important asset classes declining in the same calendar year, but it doesn’t mean that the plan sponsor and asset consulting communities need to wait. As we’ve been espousing, an environment of rising US interest rates will weigh on markets for the foreseeable future. Convert total return fixed income into a defeasance strategy matching asset cash flows (bonds) with the plan’s liability cash flows, which will buy time for the non-bond assets to grow unencumbered as they are no longer a source of liquidity to meet benefits and expenses. Although rising rates are generally bad for bonds and stocks, they may not be necessarily bad for pension plan liabilities whose present value might fall faster and further than asset levels.
For more info on why higher rates are good for pensions, go to our website… ryanalm.com/insights/whitepapers.