As the market struggles to find momentum here, the question investors are wrestling with right now is: Will the rally resume? Or is it time to get out of the pool?
Oxbow Advisors is a financial advisory firm that specializes in the needs of high net worth clients. I spoke a few weeks back with it’s founder and CEO, Ted Oakley. Today, we have the good fortune of sitting down with Chance Finucane, Oxbow’s Chief Investment Officer — to learn more about what the firm sees ahead for the rest of the year and how it is positioning its client’s assets for it.
Follow Oxbow at their website https://oxbowadvisors.com/
Chance Finucane 0:00
Say the global economy is still decelerating. You’re seeing this continued slowdown. We think a recession is on the horizon could start as early as the fourth quarter. If the Fed right now is projecting that we’re going to go from a three and a half percent unemployment rate today to maybe a 4% rate in six or nine months, it’s not going to just stop at 4%. If they’re correct, it’s heading to five or six. And that means there’s going to be other effects happening in the economy if you see that many more people lose jobs.
Adam Taggart 0:34
Welcome to Wealthion. I’m Wealthion founder Adam Taggart. As the market struggles to find momentum here, the question that investors are wrestling with right now is with a rally resume, or might it be time to get out of the pool? Oxbow Advisors is a financial advisory firm that specializes in the needs of high net worth clients. I spoke a few weeks back with its founder and CEO Ted Oakley. Today, we’ve got the good fortune of sitting down with Chance Finucane, Oxbow’s Chief Investment Officer to learn more about what the firm sees ahead for the rest of the year, and how its positioning its clients assets for it. Chance. Thanks so much for joining us today.
Chance Finucane 1:14
Adam, thanks a lot for having me on the show.
Adam Taggart 1:16
Oh, it’s a real pleasure. You know, like I said, we’ve had Ted on the program a couple of times, but this is your first appearance. Really nice to have you on. Welcome. A lot of questions here for you. I know you’re the guy. You’re where the rubber meets the road there at Oxbow, right? You’re the guy who’s actually making the big decisions, coming up with a portfolio strategy, I want to get into kind of all the things that you’re doing right now. But if we can, let’s just kick things off at a really high level. What’s your current assessment of the global economy and financial markets,
Chance Finucane 1:48
we’d say the global economy is still decelerating, you’re seeing this continued slowdown, we think a recession is on the horizon could start as early as the fourth quarter. And really not seeing anything that changes our view on that with central banks around the world continuing to be pretty restrictive in their policy. And seeing more and more leading data points that suggests that the final outcome of this cycle will be a recession. And then in terms of the financial markets, outside of a couple of countries, like maybe Japan and India that you’re seeing some acceleration and some good performance in their equity markets. The other stock markets around the world, whether it’s Europe or China are starting to see the US show a little bit of a plateau here, after rising in the first half of the year, we would say it looks concerning. And for us. We’ve been defensive for more than a year now. And I think we’re going to continue to have that stance while we tried to be very prudent with any additional allocations we make across riskier assets.
Adam Taggart 2:49
Okay, um, gosh, a lot of places I want to take this because you mentioned recession a couple of times, let me just ask you this question, because I’ve been asking you to have a number of recent guests coming into 2023, at the end of 2022, recession looked all but inevitable. And then it didn’t arrive. Right. And we had this big run up in the markets for reasons we can talk about in a bit, if you like. But I just love to get your two cents on on why do you think the recession didn’t arrive when so many people think it did. And then if you can tie into why you’re more confident that it’s going to happen on the timeline you just mentioned?
Chance Finucane 3:34
Yeah, I think it depends on which leading indicators you were looking at. So there were some leading indicators that suggested that sometime even in the first half of 2023, a recession would really start to take hold. But there are other indicators, whether it’s the time it takes on average from the first rate hike by the Federal Reserve, before a recession starts, which on average is 22 months, just shows how long that lag is before changes in monetary policy really start to shift through and affect business decisions and household decisions. You can also look at when there’s an inversion in the yield curve, whether you’re comparing the two year Treasury yield versus the 10 year yield, or the three month versus 10 year when those rates invert, and you’ve actually got a higher yield at the shorter end of the curve rather than the long end. That still takes a long time more than a year for recession usually take hold. So if you’re looking at it from that perspective, I think we’ve just gotten used to expecting something to happen very quickly, when normally this can take 18 or 24 months to play out before you really start to see a typical economic slowdown and then deterioration.
Adam Taggart 4:42
Okay, and do you think it’s more than that, which is just hey, these things just take longer than you know most people expect or were expecting at the turn of the year. Or do you think it’s influenced by while we have the Fed Putting the pumping hard on the monetary brakes right now, on the fiscal side, they’re still very much stepping on the gas with the deficit spending that’s happening right now. I’ve had some people posit that the, you know, high degree of deficit spending that we’ve been doing this year, has actually kind of pushed the recession off into the future. And maybe it’s a combination of the two, I don’t know, what do you think?
Chance Finucane 5:24
We’d agree, I think everyone has been surprised seeing that government spending number be as high as it was, in the first half of this year, if you’re looking at the breakdown of the components of GDP growth. And when we look at that, we actually think that’s going to make for a difficult comparison in the first half of next year. So even though this third quarter GDP growth number that we’re in right now probably be pretty good. Somewhere between two and 3%, we would expect that to start to really slow down in the fourth quarter and then in the first half of next year. And unless they’re going to continue that sort of deficit spending on the fiscal side, it’s going to be difficult to keep up that same growth rate heading through spring of 2024.
Adam Taggart 6:04
You can and you just mentioned maybe GDP growth two to 3% in q3. Right now, if we total over to Atlanta Feds GDP now, page, the day we’re recording, I think it’s still somewhere up around 5.8 5.9%. So it sounds like you expect that number to come down pretty substantially as we get further into the quarter.
Chance Finucane 6:29
Yeah, we do. They actually they’ve had numbers projected that high in the middle of a quarter. In the past last time that happened, it ended up being a 2% GDP growth rate for that quarter. So what they do is they’re pulling numbers as data points come in, and they’ve really only got one month out of the three for the third quarter to go off of so far. And the housing component is such a significant component that when you have a beatin housing numbers, like we had in July, that shifts their expectations higher, but they typically have been over optimistic, and then you see the number come down. So we wouldn’t expect that five or 6% annualized projection actually come through. Okay, yeah.
Adam Taggart 7:09
Cuz, you know, I think some people would say, well, chance, if you think that a recession is coming and maybe could even hit at some point in q4, that doesn’t seem to comport with an almost 6% GDP growth and a quarter. And what I hear you saying is, yeah, I don’t think we’re going to have near 6% growth, I think it’s going to be a fraction of that probably, you know, at least half if not less.
Chance Finucane 7:31
Yeah, that’s right, it’ll still we would expect it to be a positive number, just given what we’ve seen so far. But one thing for people to realize is you can go back and look at the start of recessions, going all the way back to the 1960s. And if you look at the quarter before the start of the recession, very often, you see an annualized GDP growth number in that final quarter of about two to 3% growth. So you’ll see numbers still look good, right up until the point that they don’t on that GDP line. So that’s not something to say that like, for instance, if the third quarter does come in at two or 3%, that Oh, everything’s fine. And anyone who thinks that a fourth quarter or first half next year negative GDP, that they have nothing to go off of.
Adam Taggart 8:16
Okay. So you mentioned that more and more of a leading data that you’re looking at, looks recessionary. I’d love to get a sense of, of what leading indicators you’re looking at most closely right now that are kind of giving you confidence in that. And to kind of kick off your answer. If we could talk. It’s not an indicator, but it’s just, it’s a milestone that’s coming up here, which is student loans going into repayment. So barring some sort of, you know, 11th hour reprieve that comes out of DC, it does look like 40 million borrowers are going to have their loan start going into repayment. In the next 30 days, right, I think it’s I think they start accruing interest again, as of September 1, and the checks that first payments have to start arriving by the beginning of October. So I’m doing my math, right, I think it’s about on average, something like $300 per borrower per month. And so you know, that that adds up pretty quickly over 40 million borrowers. That’s money that has been going into the economy. For the most part. I think in the vast cases, those people have not been squirreling money away, they’ve actually been spending it on consumption, all of a sudden that comes out. So how big of an impact do you expect that to have on the economy?
Chance Finucane 9:37
For the student loans, we wouldn’t expect it to be a huge impact for those 40 million households that are going to have to resume paying student loans. I think I’ve seen sort of like a low, maybe even mid single digit impact on their spending for that portion of US households. But I think when you include that along with the mosaic of just all of these sort of life decisions Now that with a higher interest rate environment, people may not affect them right away if they don’t have to buy a new house or buy a new car or resume the student loans. But over time, the longer that the Federal Reserve keeps rates this high, eventually people are going to have start making decisions, they are going to feel that impact of higher rates. And that’s where you could see a really significant jump in their expense base, and then they have to pull back. And one thing that we keep track of is the amount of money going towards discretionary goods spending versus non discretionary. And from 2020. And 2021. There was definitely a more exaggerated focus on the discretionary spending side, which makes sense when people weren’t traveling as much, and you had a little bit more excess savings to spend on goods. But since early 2022, it’s shifted more and more to non discretionary, which tells us that the impact of higher expenses, that inflation that is still impacting people, and then you start throwing in things like the student loans, it’s only going to add more and more towards people just having to spend on what they really need, and pulling back on everything else.
Adam Taggart 11:10
All right. And imagine if you combine that with savings rate now having plummeted consumer debt balances, you know, revolving credit balances like credit cards and stuff like that back at record highs. Those are, I guess, I would say concomitant signs of a consumer that’s continuing to struggle having to find more and more of their consumption on credit. And it sounds like they’re mostly now using that to buy essentials, not frivolities, like they were during COVID.
Chance Finucane 11:44
Yeah, there’s a couple of different ways you can look at recent data points to confirm that. So first, your point about credit card usage. David Rosenberg recently pointed out a stat that they sometimes will post quarterly changes in credit card delinquency rate, and the delinquency rate on bank bank, given out credit cards, those now have hit a delinquency rate that last was seen in 2012. But the difference is in 2012, the unemployment rate was still 8%, compared to a three and a half percent unemployment rate today. So you’re not even factoring in that people are going delinquent on their credit card bills, because they lost the job. This has just higher expenses and not being able to keep up another area that you’re able to look at, as we’ve seen a lot of retailers report their quarterly earnings in the last couple of weeks. And there’s been a very significant difference between more staples oriented retailers like WalMart, still reporting good numbers. And then you saw what happened with more discretionary retailers like Macy’s or Dick’s Sporting Goods that are seeing a significant pullback in spending and more delinquencies on the credit cards that they issue.
Adam Taggart 12:53
Interesting. With in the case of Dick’s Sporting Goods, too, I know that part of their underperformance was due to theft, right, which is due to sort of the rampant shoplifting that’s been going on across the country. And I think that in itself is a sign of a struggling consumer, right, where people get to the point where they just feel like the only way that they’re going to get buyers to go in and, you know, grab things off shelves and run. Right? Yeah, yes. Your point too about. You know, we’re seeing elevated delinquencies, delinquencies, at levels that were commensurate in the past with high unemployment, right, which makes sense, people don’t have jobs that can’t pay, right, don’t have income they can’t pay. You can make a really direct analogy to the federal deficit right now. Right, where we basically said many times in this program recently, we’re running essentially a wartime deficit in terms of its its, its percentage GDP. In a peacetime economy, where we have unemployment, we’ve never been this way, we’ve never run a deficit this high as a percent of GDP with an unemployment rate this low, right. So it just says both of the individual household level and at the national level, we’re struggling to make ends meet even during quote unquote, good times. Right. So it does raise the specter, if you’re correct about a recession arriving is like, wow, what are we what are we going to be doing when times are tough, right?
Chance Finucane 14:25
Yeah, absolutely. And we think about this a lot, because we’re always trying to consider the incentives or the motives of the key players involved, whether it’s the Federal Reserve or the US government. And I think the number one focus for Jay Powell at the Federal Reserve is bringing down inflation. And we think people are under estimating just how long he might keep interest rates high to really try and make sure that the inflation rate can get down to 2% or below. But what he also needs to have happen is there’s enough of a slowdown and potentially a recession, that he can feel confident that We can lower rates back to a more normal level, say two or two and a half percent on the Fed funds rate. So that those interest expenses on the US Treasury debt is not going to be annualizing at a $1 trillion rate, like what we’re starting to look at, we’ll be paying going forward. That’s not something that fits with the overall fiscal equation for the United States. They can’t keep rates this high. So they really need to slow things down. So they can cut the rates, but they got to get inflation down first. So it’s sort of a domino effect. But we do think that’s why he will keep rates high for as long as possible to make sure that things have really come back down to a what he would consider to be a normal level.
Adam Taggart 15:41
Okay, so let’s, let’s talk about inflation and interest rates. And so, you know, inflation has come down a fair amount from its highs from last year, right? We’ve come down from from 9% to 3%. We’re seeing it begin to bump back up again. And to a certain extent, that was expected with just the math of base effects. But also, I have had some recent discussions with folks on this channel about how the remaining inflation may prove stickier and harder to remove than the progress we’ve made so far to date, right? And it’s been positive, sort of like the The Pareto principle, you know, 20% of the effort is expended, get rid of the first 80% of inflation, but the real MAC, the majority of the effort now is going to be spent getting it down from three to two. Right. And there have been people that have been saying, and there’s been a lot of trial balloons recently floated of well, maybe the federal just raise, right, its inflation target to 3%. And it can say, Oh, well, you know, job done, right. But Powell seemed to really directly address that last week and said, our goal is 2%. We are not wavering from that, you know, we are going to be as higher for longer until we get inflation down to 2%. How, how successful do you think the Fed is going to be with inflation? Is it is it going to have still more of a wrestling match ahead of it? Or you know, some people are saying the dragon has been killed, it’s just all over but the crying and with forces of disinflation and deflation and arriving recession, inflation is going to be cured Anyways, what do you think?
Chance Finucane 17:21
Yeah. So first, just, we don’t think that he’s going to move the target and say that 3% Inflation is the new goal for the average, we think he’s very focused on maintaining the credibility of the Federal Reserve as an institution. And he knows that they have to get it back down to 2% or below just to show that they’re still capable of doing that. But to your point, we would agree with some of the previous people you’ve had on your show that it’s going to be difficult to get from the current 3% level down to 2%, we would actually say like others have that we’re going to be drifting a little bit higher, and that you’re probably going to be between three and three and a half percent for several more quarters. And until you start to see more parts of the economy deteriorate. Some of that probably related to jobs and wage growth coming down, it’s going to be difficult to really see that trajectory from 9%, down to two or below be completed. And that’s why when we look at, like, we’re looking at what the markets reacting to today, where you’ve got the the new jolts job openings, number comes out lower than expected. Conference Board, expectations, numbers are lower than expected. And people are thinking, Oh, that’s great. That means there’ll be no more rate hikes, they’ll start cutting rates in May of next year. And we’ll kind of get this perfect sort of economy and market that we want. We don’t think that’s how he wants this to play out. He really wants to keep rates high for as long as is necessary to achieve that 2% goal. We just think it’s going to take a while and it’s really going to test how committed he is to achieving it.
Adam Taggart 18:56
Alright, so the ways in which that Powell can continue to fight inflation is he can keep rates higher for longer, and just wait for the lag effects to continue to fully arise and bring things down? Of course he could, he could add more fuel to the fire and he could continue to hike rates from here, you know, you mentioned three to three and a half percent inflation for quarters, right with an S. So I guess first question is is how likely do you think it is that rates the federal funds rate could go even higher from here
Chance Finucane 19:34
as possible, and we don’t usually try and say for certainty, oh, it’s going to be higher. I think the key is just that it’s going to be at this level or even a little bit above it for at least several more quarters. And if that’s the case, that just allows more and more time for that sort of quantitative tightening, whether it’s the actual Qt that’s happening or the restrictive rates to slow down economic growth. tivity and it leaves more time also for any sort of exogenous shock that could happen in the economy that would send the market and the economy into a recession. That I think that’s where we’re focused is just, I think one thing, maybe just a pullback is, rather than thinking so much about, is this going to imminently happen, it’s worth thinking about what is the inevitable outcome. And the way that we think he is currently playing his hand is that the inevitable outcome will be a recession. And it pays to really be defensive and thoughtful in terms of how you allocate assets. And that’s sort of the approach that we want to always maintain until we see the conditions change.
Adam Taggart 20:37
Great. And that’s where I’m going, by the way we are heading towards the HOW ARE YOU allocating assets question? You know, when we talk about these higher rates in Qt, but particularly the rates, the analogy I use is it’s almost like the Fed is dialing up the pole of the force of gravity on the economy, right? It’s like, it’s like being on a planet where the gravity gravitational force is just higher than it is here. Right? So it’s just harder for the economy to move forward. It just moves more slowly. And when you were talking about, you know, consumer households earlier and saying, look, the loan repayment in and of itself isn’t a massive deal, but But given that it’s just one of many injuries that the consumer household is having to endure right now. It could be that straw that breaks the back for a number of them, right. And so when the gravitational force is this heavy, yeah, any anything that adds an additional stone to its back, you know, just pulls down with that much greater force. And, of course, everybody is sort of concern here is that the US economy got a habituated addicted, if you will, to ZIRP to historically low interest rates, and we’re now up here at five, you know, when a quarter plus and maybe even higher, who knows, right? How long can it move under that force of gravity before things really snap and break? And of course, you know, I think a lot of the pivot errs, think, hey, you know, I’m excited when there’s bad news, like the jolts report, because I think something’s breaking and the Feds gonna have to step in and rescue. Powell, obviously, is saying, I’m going to keep flying this plane at this altitude until inflation gets where I needed to be. How do you see this resolving because the longer we hang out here, if we hang out here at quarters at this amount, inflation, you know, persist the way that you think the odds of more and more stuff really breaking, you know, it increases pretty substantially, we’ll pow, let it break, and let the let the hemorrhaging happen. If inflation is still stubbornly above his target, here,
Chance Finucane 22:49
we think the two are pretty much tied together. In order to see inflation clearly get to 2% or below, it usually means that something does break. Because in the past recessions even more even in a more inflationary environment, you will see inflation come down, you’ll see long term bond yields come down. So we would actually expect the two to be somewhat linked. And that will be the way that he gets inflation back to his target, and would then give him the ability to lower rates after he says that his job is complete. But for that to happen, you’ll likely have seen the prices of assets in the financial market come down significantly. And I think that’s probably the thing that’s most interesting to us is on days like today where the market is trading higher. After the jolts job openings, data comes out, people are taking bad news is good news. There’s cases of this in the past where when the Fed first started cutting rates in the early part of the great financial crisis, you would see stock prices move up in the short term. But if you are heading towards a bad economic environment, eventually that bad economic data takes over and you will see share prices fall. So we wouldn’t get caught trying to chase any move higher here at these prices. We think it’s much more to be focused on where the end outcome is in this cycle.
Adam Taggart 24:13
Okay, yeah. And I’m always this is why I hammer on the lag effect so much and feel free to agree or disagree with me here. But you know, so many of the people that are again, hoping for the pivot that are cheering today’s bad jolts data, as you’ve mentioned. In their minds, they think okay, great, you know, the Fed is going to have to pivot soon. And then when the Fed pivots and rates start coming down, then it’s it’s back to the old salad days and you know, prices are just going to shoot the moon as a result, because that’s what we’re used to. But if you go back and you look at every other period of time where the Fed has hiked rates until really things started to start breaking. Really when the Fed pivoted, you then were followed by quarters of pain and declining financial asset prices. And the thing to keep in mind with this is that the lag effect is it’s a bolus of things that move as like a big bell curve over time. Right. Which is why to your point, even though the Fed really started, you know, its tightening efforts. Well, over a year and a half ago, we still haven’t really seen the full force of that yet, because it takes a while to go through the economy. Well, it’s the same thing when you cut, right? When you cut, you’re cutting because Things look bad? Well, you’re just beginning to see the, you know, the, the real mass of the prior policy, right, and that has to play out through the system. And then at some lag of maybe a year, year and a half plus whatever, then the policy shift begins to get reflected. But that’s way in the future here. Right. So you know, I think people just have this really erroneous, maybe magical thinking right now that a the lag effect doesn’t matter from all the tightening stuff, right? So we don’t have to bring down asset prices, like stocks or housing, right? And then secondly, that if and when the Fed does pivot, hey, we’re gonna magically go back tomorrow to the happy days where it’s like, no, you’re gonna be in probably for a world of pain for a good while.
Chance Finucane 26:18
Yeah, I think it’s a great point that the Fed moves on lagging data, they’re not going to try to be predictive. Even if they see something that suggests that, let’s say they thought inflation was going to come in really low, they can’t move ahead of that and start cutting rates when the headline inflation number is above their target, because most of the country’s going to think, what are you doing that for, so they’re always going to be a little bit late. And by the time they wouldn’t move, like you said, things are usually already breaking. But once that momentum on the negative side has started, it’s very difficult to just stop it on a dime, even with the Fed trying to take what actions they can. And the best example of that would be to look at changes in the unemployment rate through a recession. And once you see the unemployment rate rise by half of 1%, it usually means that it’s going to rise by at least one and a half percent, if not 2%, or more in total. So if the Fed right now is projecting that we’re gonna go from a three and a half percent unemployment rate today, to maybe a 4% rate in six or nine months, it’s not going to just stop at 4%. If they’re correct, it’s heading to five or six. And that means there’s going to be other effects happening in the economy, if you see that many more people lose jobs.
Adam Taggart 27:34
All right, so So let’s talk about this then. So, you know, the question I want to ask you is, is, can the economy handle a cost of capital, this high candidate handle interest rates at these levels? I mean, obviously, it sounds like you think that, that they’re going to bring the economy into recession? What do you think is the most likely progression from here? How does the lag effect really begin to manifest from here and your eye? What are you going to be looking for?
Chance Finucane 28:08
Yeah, so one example, where I know last time you interviewed our founding partner, Ted Oakley, he talked about some of the leading indicators that we follow. One of them is watching the change in lending standards by banks around the United States. And those standards, what it takes in order to lend to a small business or a household. They’re tightening those standards substantially. And you can go back through decades of history, when they’ve tightened like this, there’s never been a false signal where it didn’t lead to a recession. So right now, let’s say about a third of lending in the US economy comes from banks, that third is tightening substantially. And then the other two thirds about, say a third of that is private credit, which is actually doing quite well. And I think that’s been part of why things have stayed more resilient than expected, that the private credit area was maybe not as built out decades past as it is today. And then the remaining area is that large companies can still go to the public markets and issue debt and try to get some financing that way. But that’s not an option for small businesses and households. So we think that that sort of slowdown on the small business and household side, that’s not going to go away, especially when banks don’t really know necessarily what their profitability is. They don’t know what their asset level is, considering people are still pulling money out slowly to invest that a higher return and a CD or a three month treasury bill, something else that can get them at least a 5% annual return rather than the very slow or small return you’d get at a lot of these banks.
Adam Taggart 29:46
All right. And presumably, you know, I’ve shown some charts and some previous videos of the corporate debt that’s coming up for that’s maturing over the next couple of years and It’s a lot. It’s like, I don’t know, 600 billion or so this year, almost 800 billion next year over a trillion in 2025. So, you know, that’s going to be weighing heavily on the corporate side of things. But they’ve got time, right. And they’ve got some of the the venues that you just mentioned, but but small businesses and households don’t. So they’re probably going to be stumbling first, I imagine in your timeline here. So we’re going to see things like consumer spending, which obviously is 70% of today’s economy, that’s probably going to start getting injured first as we go along the process here.
Chance Finucane 30:36
Yeah, we think that’s right. And then the other area that we look at is within the public markets, it’s actually the smaller companies that have a much higher proportion of debt that is sensitive to interest rates, whether that’s variable rate debt, or short term debt that’s coming due, they didn’t raise as much long term debt at fixed rates, like large cap companies. So if you do want to be invested in the stock market, we would suggest staying more in smart areas within large cap stocks rather than small cap, just because the small cap area is way more sensitive to the economic growth rate, and is carrying more debt. We actually saw a recent piece of research that showed that for the small cap market at large, next year, a quarter of their EBIT, dA is going to be put towards just paying interest expenses. Whereas for the large cap companies, that’s less than 10% of their EBIT da, since they have stronger balance sheets, and you have a lot of these tech and healthcare businesses that have very little debt anyway.
Adam Taggart 31:36
Wow. Okay. That’s a great point. So it sounds like in terms of some things that you’re maybe bearish on is things like the Russell in a wheelchair, right, which are filled with much more with a smaller cap companies.
Chance Finucane 31:51
Yeah, we would view the Russell 2000 as a more broad view of the US economic activity as a whole, as opposed to the s&p 500, which is dominated a lot by certain companies in a specific sector. And it’s still interesting to us that since that low in the stock market in the fourth quarter of last year, the Russell 2000 really is not appreciated by much, nowhere close to what it normally would off of a great low. So that tells us that there’s still some issues going on. Another place to look within that is the regional banks, if you looked up the regional bank index, they fell off a cliff and share price in March, when a few of those banks went under, they’re still at the same price today as they were five or six months ago after that fall. And usually, if we’re working our way out of a difficult economic environment, the financials and the banks in particular are playing a part in that they’re participating. But in this case, that’s not happening, which tells us that this is a different situation that we need to continue to just monitor and, and be careful with what we’re doing.
Adam Taggart 32:58
All right. So I’m going to start heading into you know, okay, what you’re doing, given all this outlook, right. So I’m going to assume you’re probably staying away from smaller cap companies. I mean, it was soom. In general, you’re not super sanguine on stocks. Because given the outlook that you’ve painted, it sounds like you expect corporate earnings to be getting increasingly weighed upon by the issues that we’ve talked about here. You’re nodding, but I’ll let you expand on this. One, I’ll let you when wants to talk about equities in general. But then, of course, I want to get over to bonds and interest rates, because I think there’s some really interesting things going on there right now. Sure.
Chance Finucane 33:45
So just touch on those couple of points. So for small caps, I think we would look in the small cap market eventually, but not at this point in time when we think economic growth is slowing. One thing just for people to know when it comes to small caps is you really want to be specific about which individual companies you want to own. You want to look for small cap businesses that either have high free cash flow margins, or have a high free cash flow yield. And that’s going to be your best chance to do well within the small cap market. But you need a better entry point than what you have right now. Stepping that aside, if you just look at stocks in general, you’re right, we are being pretty careful in terms of what we select. Going into this year, we add more exposure to cyclicals after the sell off in 2022. We were buying a lot of the tech positions that we own and a lot of the consumer positions that we own for new stock clients of ours, but those have appreciated by so much that they’ve gotten ahead of our fair value estimate. So we’re going to not even going near those right now. And we’ve actually been adding in other areas of the market that are more defensive. And really I think the focus for people should be on those areas of free cash flow margins are are good free cash flow yield, and in a business that you got some visibility that the cash flows will be there, even if the economic environment gets worse, because there are certain areas that might optically look like they’ve got good earnings right now. But if it’s a consumer durables business that selling cars or boats or even like the homebuilders right now, we wouldn’t be putting in at these prices. Those are not areas where you can really bank on the cash flow is being able to come through even in a difficult time. So we’re really just trying to make sure we map out the downside, and try and keep our losses small if there are any, and just pick spots in in certain areas.
Adam Taggart 35:41
Okay, all right. So that’s the equity side of things. Over on the bond side, really interesting time there. Right? You know, we’ve been talking about how interest rates are high, and that’s going to change the game for everything. But suddenly, you can get a good yield on bonds, and unsafe bonds, which was something that wasn’t the case just a few years ago. And for a long time, it wasn’t the case. Right? So I’m going to presume in your Outlook, you’re probably taking advantage of that. I guess, how, and how do you look at bonds in general, you know, the attractiveness of, say, US Treasuries versus corporate bonds.
Chance Finucane 36:31
Yeah, you’re right. I think one way to look at this is you’re always asking yourself, when you look across financial markets, is there anything that looks obvious is sort of like a great opportunity that you wouldn’t normally find, and in most places, right now, there’s no amazing opportunity. So it’s a lot more nuanced, just trying to make small picks here or there allocate and little ways. The one that looks to us like a really great opportunity is that you can get a five and a half percent annualized return on a six month treasury, or, you know, close to that for a three month treasury. So we actually have our biggest position, and the most allocation is in that short term treasury. And we’ll own a little bit out to about the two year mark in the treasury. But we probably have anywhere from four to six times as much exposure to the short term treasury, as we do to long term bonds. Right now, we do think it’s an interesting spot for long term bonds. But it’s really hard to beat a clear five and a half percent expected return, with no duration risk, no credit risk. And if you’ve got that as your opportunity cost, you really are going to have a tough time trying to find something else that you’d want to own. So that’s really where our main focus is, we found some opportunities and long term municipal bonds that are high quality, for a little bit of exposure for our income accounts. And then in terms of beyond that, in the bond world, we don’t own anything in the corporate bond space, whether it’s investment grade, or high yield. And the reason for that is just the credit spreads have not widened at all, they’re actually I think, even narrower than average. And that’s usually not the time that you’d want to be jumping into that side of the market. So our focus is just taking that five and a half percent, and then looking for opportunities outside of that, that would be even better. But it’s a very good place to be to start.
Adam Taggart 38:24
Great. Yeah. And I appreciate you sort of underscoring it, I did this and I conversation was definitely Pumbaa the other day. It’s not all that often, where you get kind of like, I want to say slam dunk, or no brainer opportunity, because that’s, that’s overstating it, but where you just have a clearly superior or attractive investment opportunity. And sounds like right now, if for the combination of risk and return, what you’re getting right now in the short term Treasury instruments is just historically rare. And, and especially since you can sit in them and it can be you know, you’re in safety, like, that’s what’s not to like, right? And I gotta say, like, I can’t tell you how many times last year in 2022, is the markets were grinding downwards, where I heard from people, gosh, if I could just get a 4% return somewhere, that’s all they want from my with my money, I’d be totally happy forever. If I could just get 4% on my portfolio. Well, now people can write with complete safety. And what’s so funny is now some people are kind of grasping, because while these AI stocks are doing so great, I’m angry, I’m not in them, but it’s like, Well, Jesus, that’s that’s, that’s just an apparent, you know, potential bubble in the process here, you’re getting actual, you know, decent return with absolute safety. Like why would you regret that? Right? So anyways, I’m glad you underscored that. The reason why you’re sticking away from corporate bonds right now, just to make sure I think I understand your logic correctly is, as long as we’re higher for longer yields are likely to kind of persist at these levels as the lag effect continues to arrive recession potentially expresses itself. Risk, investors are going to demand higher yield in corporates for the increased risk that corporates have. And so you expect yields on corporate bonds to go even higher. And then given the inverse relationship between yields and prices, you think that corporate bond prices would go down. And that’s really why you’re not touching them right now. Do I have that correct? Yeah, that’s
Chance Finucane 40:24
right. So just use high yield bonds. As an example, you typically are looking for, let’s say, at least a 6% gap, as more of a good buy spot between the yield on a high yield corporate bond versus a treasury yield of the same maturity. So when you’ve already got a five and a half percent short term Treasury yield or a 4% 10 year yield, you’re probably looking at you want at least a 10% yield on a junk bond. Before you’d really get interested in you’re not there at this time. So that’s one that I think you’d really want to wait and see more fear in the marketplace. And you would see that spread widening. But as we mentioned before, because these public companies are still attracting interest from buyers, in the public market, when they do need to issue debt, you’re not seeing that credit, spread widen, and part of us, we also kind of wonder if the fact that the last time we had a crisis in March of 2021 of the Feds ways of trying to help the market was going in and buying junk bond ETFs. Maybe people are assuming they would do that the next time there’s a crisis. So they’re not even letting the spread widen in the first place unless there was a real catastrophe that they hit the world. So you’re just not seeing that same opportunity.
Adam Taggart 41:40
All right. Before we fully move on from bonds, I just want to dig a little bit into your strategy for determining when it it may make sense to start going out on duration for at least treasury bonds. If I heard you correctly earlier, I think you said you see opportunity there, but but not necessarily right now. What will you be looking at to potentially make the decision? Okay, now’s the time to actually start going further out.
Chance Finucane 42:12
Yeah, we own some 20 to 30 year treasury bonds, say it’s about 10% of our portfolio for the income strategies that we manage. But I think we’re being more cognizant of the fact that it seems like it’s a little bit different time in the bond cycle than what we experienced from the early 1980s. Through 2020, or 2021, you’re starting to see yields move higher, the bonds are acting a bit differently. And we just want to be cautious while we’re sort of looking at things in this new environment. So it is possible that yields can move a little bit higher. But the reason why we own them now and think this is a good time to have some exposure to long bonds is that when you’re at the end of a Fed rate hike cycle, once the rate hikes are done, and maybe July was the last rate hike, perhaps it’s a little bit later in the year in November, that’s the last rate hike. But historically, once the rate hikes are done, you will see yields move down and the 10 to 30 year Treasury over the course of the next 1218 months. And that’s the time that you want to own those long bonds. And you could expect the double digit total return over that period of time. So it’s nice to get the five, five and a half percent up front, but there’s no chance for price appreciation, this would be a way to get a little bit of that. And then some if you get what we’re expecting, where you have this continued slowdown in economic growth, and inflation stays in this sort of contained area, and then you would see long term bond yields start to move down.
Adam Taggart 43:47
Okay, and so would you would you move when you first start seeing long term bonds begin to come down? Or is there some sort of economic milestone that you’d be looking for to say, Okay, this is when we’re going to start, you know, shifting more of our short term capital to the long term.
Chance Finucane 44:04
We’ve already got a decent sized position. So we would really need to see the opportunity get significantly better. I think, for us to put even more on that side, we’ll just view it more as you’re about at the level. And I think once you get closer to the end of the year, you really start to think you know that the rate hikes are done. And rates may stay higher for longer but they’re going to stay at the current level. That would probably be the time to have that position. And then just monitor it over the course of the next year or so. We would expect to start moving in your favor.
Adam Taggart 44:34
Okay. So I guess the last question on this it doesn’t sound like you guys are necessarily planning to go whole hog on the on the long end of the curve at some point. You’ve got a position you feel pretty comfortable in maybe you’ll dribble some more in there but it doesn’t sound like you. You’re waiting to put 20% More your portfolio net direction.
Chance Finucane 44:54
No, we’re not. I think the we’ve got we can go a little bit higher but we’ve gotten a lot of the pieces Isn’t that we’d like at this point in time. And so we’ll we’ll continue to monitor. But I think, really what we see that short term Treasury money that we have allocated there, we wouldn’t see that being more of a source of funds for purchases in the riskier side of the financial markets, once you see more of a pullback in in those areas. So there might be opportunities in common stocks in energy and REITs. In preferred stocks, there’s a lot of asset classes that we look to for income, and there’s going to be better entry points. And that’s where that short term Treasury money could end up going.
Adam Taggart 45:38
Okay, great. Thanks for revealing that strategy. And folks, this is love having folks who manage money on the program because you get to see how their mind thinks he’s getting the the yield right now, you know, off those instruments, because it’s, it’s risk free high yield right now, but it’s not a permanent position for him. He’s looking at that as a war chest to be able to then tap when valuations are better in other assets. I want to talk about that in just a second. Just real quick. I do believe you guys invest some in preferreds there at Oxbow, can you just talk about your what you look forward to preferred right now?
Chance Finucane 46:14
Yeah, our focus in preferred stocks right now is really just in the too big to fail banks. And right now, because you’ve seen this increase in US Treasury yields, you can actually get preferred stocks with six and a half or 7%, or even higher interest rate or coupon rate that you can receive. And we really focused on those for too big to fail banks. So Bank of America, Citigroup, JP Morgan, Chase, and Wells Fargo, because those are actually the banks that are gaining in deposits and getting stronger over time, we would expect them to be able to withstand any sort of poor economic environment, continue paying those coupons to the preferred stockholders, and and be a decent place to be. So right now, I think that’s the only exposure we have at this time. But if you saw a greater sell off for risk assets, there would be more preferred stocks as well as convertible preferred stocks, where you can see some great opportunities.
Adam Taggart 47:14
Okay. And that is seemingly compelling argument there, which is you can get a higher rates than you can on a treasury on a preferred from like a JP Morgan. And like, Look, if JP Morgan is defaulting on their preferred IDs, we all have much bigger problems, right. Like that’s a world where the economy is like not working anymore.
Chance Finucane 47:33
Yeah. The Jamie diamond and Zia come in, and we’re, yeah, we’re all in trouble. Yeah,
Adam Taggart 47:38
yeah. All right. So you know, when I’ve talked to Ted, he has the wisdom of, you know, a career that’s been, you know, spanned decades, in managing money in the markets. And, you know, talks about how, you know, all bear markets and with a washout, right, they end with capitulation, where really, nobody wants to touch, you know, bear market equities. Nobody wants to touch a stock again, at the end of it. And of course, that’s sort of where the experience people really start looking to buy, right, that’s sort of that psychological milestone they’re looking for. We, despite how painful 2022 was for a lot of people, by no means do we even come close to that kind of capitulation? And obviously, here in 2023, you know, everyone’s trying to get the party reinvigorated again. So when you sort of referenced your war chest there, and you tell us about your, your confidence that a recession is coming? Are you kind of expecting to have the ability at some point in the next say, 12 to 24 months, where you will see that capitulation and be able to take advantage of it with the war chests of, you know, relatively safe capital that you’re building up right now? Like, like, is that kind of the plan, the plan A, which is we think we’re going to have this opportunity where enough investors get washed out that great value gets just left there on the ground for us to come pick up at great prices.
Chance Finucane 49:21
Yeah, we would say that’s, that’s what we would expect. There’s always the possibility that it takes longer than you anticipate but you can go back through decades. And usually once every four to five years you get a great buying opportunity in the stock market and in some other asset classes as well. And it helps to have some money that’s safe and ready to go and right now you can get five and a half percent on that safe money which is fantastic. And really be able to buy in at fantastic valuations. The last two times we did this, were two days before Christmas and 2018 Right before For that low, I clearly remember us putting a significant out to work. And then march 16 of 2020, which happened to be a week before the low tide, and I put a significant amount to work. So I think that’s something that we’re always looking for. And there are certain clear signs that you just know, these are the types of prices we want to pay. This is the level of fear in the marketplace that is suggested suggestive to us that it’s a good time to buy and to try and take advantage. Right now we’re just we’re not seeing those valuations yet. And if you look at the VIX still below 20 as a sign of fear, you’re not seeing that kind of fear yet. But if you keep rates this high, and you see things deteriorate, any sort of a shock, or like you said, any additional stone on the backs of households or small businesses, can end up being something that makes things more difficult and leads to that fear generating and then anyone who was ready for it can take advantage.
Adam Taggart 50:58
All right, well, chance, let’s make a deal here, which is, when we get to the moment whenever it is, when you start seeing those signs that this is the time to start deploying capital like that. to have you back on the channel, let’s have this conversation again, let’s have you, you know, tell folks which are what you’re looking at and what you’re most interested in. So two questions for you. As we wrap this up chance, this has been a great discussion. Thanks for for giving us so much of your time and opening your, your, the window so much to your portfolio management. I know when that time arrives, so much of your decision making is going to be driven by just what the valuations are at that moment in the different asset classes there. But, you know, what are you looking towards with an eye that when when valuations make more sense, like what assets are you excited to buy that you’re not buying right now?
Chance Finucane 51:53
Sure, let’s go step by step. So in the stock market, there will be cyclical sectors that will have sold off more. And you’ll see really depressed valuations, maybe even trough earnings. And we like to look out about five years, and it’d be easy to project very high quality businesses that you have a reasonable idea of what the cash flows will be three to five years into the future. And if you can buy that at a cheap price, that could be consumer discretionary, could be some tech businesses, financials, industrials, energy materials, all those more cyclical areas, you’ll be wanting to rotate out of healthcare, consumer staples, anything that’s more defensive and move towards the cyclical areas of the market. So that’s the stock market, and anybody who’s trying to generate high income, there’ll be areas within energy, that you’ll see an opportunity that happened last time in 2020, there’ll be areas within real estate that might have sold off that you might be able to buy some REITs, that convertible preferred stocks, there’s usually some companies that issued convertible preferred stock, so they could maintain an investment grade credit rating. And if their common stock price has come down, you usually can buy that at a great yield, and then it will convert to a common stock and you kind of get a double benefit over a multi year time horizon. There also might be some other opportunities within common stocks with high dividend paying assets. So we always are monitoring for companies that pay a 4% dividend yield are higher or a 6%, dividend yield are higher, you’ll see some of those sell off, even though the businesses remain strong and may have relatively gained market share versus their peers. And that would be a good place to look as well. So depends on what your goal is. But there will be opportunities across a lot of different fronts.
Adam Taggart 53:47
All right, well, let’s, let’s hope that opportunity arrives sooner rather than later. I’m getting really tired about talking about all the warning signs and the macro economic side of things and preaching safety. And with love to get to the point of the story where we get to talk about great valuations in great entry points for people. Last question on this, which is, are there any other assets that you guys are holding or buying right now that we haven’t talked about yet? I’ll toss out some candidates just because they come up relatively frequently on this program. Gold is one. Energy is another one. I know you just had energy in your previous answer. But some people are actively buying some energy companies right now, given the attractiveness of that relative attractiveness of that sector. But are there any assets that are worth noting that we haven’t touched on yet? Yeah, I
Chance Finucane 54:36
think first just to touch on the energy we do own some energy assets in our income strategy. And that focus is more on the more we would consider a defensive part within the energy sectors. So the pipelines which are in about as strong a fundamental position as they’ve been in in their history, they’ve paid down a lot of their debt, they generate a lot more cash flow beyond what they pay in dividends. which they pay a good dividend yield somewhere between six and 10%, depending on which ones you own. But we own some of those pipeline businesses and then also own a, an oil royalty business. That’s just a very high quality business model, because they don’t have the same expense base, they have to deal with as if you are a an actual driller for oil. On the gold side, we do have heaps, some exposure to actual gold, and then to a few high quality gold royalty or gold miners. And that’s been something that we’ve had in the portfolio for several years. And we think that’s just a good place to be to try and maintain and grow purchasing power in a way that’s diversified from the rest of the portfolio.
Adam Taggart 55:43
All right, well, look chance we’ll have to end it here. But just a wonderful conversation. Again, thank you for being so transparent. It’s really valuable when I can bring on a capital manager like you who just walks people through, you know, the logic in their head of why they’re, why they’re making the decisions they are or as you’ve done here, you know, kind of you’ve detailed the playbook for the strategy you’re going to use once the buying conditions come into play. So thank you, again, for being so generous with that. For folks that have really enjoyed this conversation, and we’d like to follow you and your work, where should they go?
Chance Finucane 56:16
Yeah, you can learn more about us at Oxbow advisors.com, or visit our YouTube channel under the label Oxbow advisors.
Adam Taggart 56:25
Okay, so if folks are looking to stay on top of your work, go to the website. Also, I know that you guys do interviews, sort of like this on YouTube periodically, and folks can see you in conversation with other people in the space, correct?
Chance Finucane 56:38
Yeah, I think the YouTube channel is a great place to go. We try to post something at least once a month, providing a little bit of our view on what’s happening in the marketplace. And then we also like to do interviews of other professionals that we respect a lot in the industry and just have a good dialogue going of all the things that we think are valuable to know about how to invest your money.
Adam Taggart 57:02
Great. All right. And, folks, as I said, in the intro, Oxbow, their main focus is high net worth individuals, they kind of specialize in the entrepreneur who had a big liquidity event, you know, sold their business, sitting on a big pile of cash doesn’t know necessarily what to do with the cash and maybe even necessarily what to do with themselves. And now that they’ve sold, they’ve handed their reason for being over to somebody else. So if you fall in that category, definitely give the guys from Oxbow a shout. But for all of the macro issues that that chanson I talked about here, you know, it should be self evident at this point. But this is why we recommend that, you know, the vast majority of people who view this channel should be navigating what’s ahead under the guidance of a good financial advisor who understands all these macro issues, if you are and if you’re not a high net worth account, like I just mentioned, or entrepreneur who just sold their business. If you don’t have a good advisor who’s advising you consider talking to one of the financial advisors that Wealthion endorses. To do that just fill out the short email@example.com These consultations are totally free. There’s no commitment to work with these guys. It’s just a free public service. They offer to help as many people as position as prudently as possible in advance of the developments that that chance, referred to here. And if you’d like to see chance back on this program, again in the future, especially when you start seeing the indicators that tell them it’s starting to be time to look at buying things. Do me a favor, voice your support for that by hitting the like button, and then clicking on the red subscribe button below, as well as that little bell icon right next to it. chance again. It’s been a wonderful hour. Thank you so much for your time, any parting bits of wisdom for folks as we wrap things up here?
Chance Finucane 58:49
No, I think just continue to be mindful of the environment and be prudent with what you’re doing. There’ll be great opportunities down the road, but right now it just pays to just stay on top of what you have.
Adam Taggart 59:00
All right chance. Thanks so much again, everyone else thanks so much for watching.