“There are decades where nothing happens, and there are weeks where decades happen”
–Vladimir Ilyich Lenin.
On Saturday, February 26, 2022, in response to the Russian invasion of Ukraine, the G7 countries, in addition to economic sanctions, froze over $300 billion of Russian foreign reserves held in their respective countries. This action, used only rarely in the past with countries such as Iran, Afghanistan, and Venezuela, could undermine the use of the US dollar as a Reserve Currency by other global Central Banks.
The US dollar makes up about 60% of global currency reserves, and its status as the global reserve currency has been undisputed since WWII. It accounts for nearly 80% of all international trade transactions. If the demand for US dollars across the globe decreases, this could impact interest rates and asset prices in the US.
Why does this matter to your investments? How does this affect our investment philosophy? Should we make investment changes? Good questions.
Before I write more regarding the current investment environment, I want to first focus on some initiatives BlueBird Advisory is rolling out this quarter for your benefit and for which we need your participation if you desire.
BlueBird Q2 Client Solutions:
- BlueBird Advisory is offering to review your 2021 tax return with a team of CPAs and specialized software. You will receive a summary report that translates your return into more understandable information with alternative scenarios that may reduce your tax bill.
We need your tax return in pdf format to begin the process. Please get in touch with Barb or me, and we will help you securely send us your return. There is no cost for this review. Tax planning is a priority for BlueBird Advisory, and we plan to offer this each year.
- The focus in May and November will be in-depth client reviews – either in person or remote. We recommend either once or twice per year based on your situation. We can dial in a financial plan customized for your financial wellness with our financial and investing software tools.
We appreciate your patience during the past six-month transition time. We are available throughout the year for meetings but wish to focus on these two months for in-depth financial reviews as part of our client service process.
Now, On to the review of the markets, their impact on your investments, and the changes we are making. I understand your time is valuable and wish to provide a summary with a more in-depth analysis following if that is of interest to you.
For the first quarter of 2022, the broad S&P500 index was down about 5%, the tech index Nasdaq was down about 9%, and the broad bond market was down over 6%, its worst showing in decades, with long-dated government bonds doing even worse. Since most portfolios own both, losses for most allocations ranged in the 5-10% – and BlueBird portfolios were no exception.
The following is a summary of changes made to BlueBird portfolios, mainly in March, in response to the changing landscape brought on by the Russian invasion and the repercussions of the economic sanctions the West is imposing. While inflation may have been slowing in January, it got a new burst of energy post the sanctions. Time will tell if this inflationary cycle will last longer.
It is BlueBird’s opinion the bond and growth stocks we choose will do well if inflation eases, while the value and commodity stocks we choose carry the load in inflationary periods such as today. All BlueBird portfolios have a varying mix of each, but we tend to make tactical shifts as the winds of inflation and deflation blow through our economy. Currently, we have been adding to our inflation-fighting players.
The broad themes that we – and the managers we hire on your behalf – are implementing during this period include:
- Reduce bond exposure.
- Reduce equity exposure, and focus on better-performing sectors, such as healthcare, energy, and basic materials.
- Increase investment into Alternatives – such as Managed Futures which are not directly correlated to the stock market.
- Increase investment into industrial and apartment real estate, which are natural inflation hedges.
- Increase investment into commodities, such as energy, energy pipeline companies, agriculture, and precious metals that tend to do well in an inflationary environment and have suffered years of underinvestment.
Now, I will give more details regarding the investment environment for those interested.
Below you will see how some of these inflationary fighting sectors and funds performed in the first quarter.
The seasons are changing.
Before the Russian invasion of Ukraine, the rise in inflation appeared to recede as Covid restrictions lifted and the economy began to replace the damaged supply lines and diminished inventory levels. As the graph below shows, the Covid income stimulus is wearing off, which will help reduce demand and inflation. Whether this reduction in income will send us into recession remains to be seen.
However, in 2021 the amount of money invested into stock funds exceeded the COMBINED investments of the past 19 years!
Much of the above excess stimulus income ended up in the stock market.
This influx of money caused valuations in the stock market to reach historically high levels, which are now receding.
If inflation continues, these valuations will remain under pressure as companies need to grow into valuations, which could take a few years.
People may forget that for 12 years – from 2000 through 2011, the S&P500 was mainly flat, up only around 6% cumulatively.
Most of the returns has occurred in the past few years
Growth stocks (and bonds in their own way), have been the big winners as low-interest rates favored growth assets over slower growing assets.
Here is the 20 year annualized return of various asset classes.
What stands out in the above chart is the sub-par return of commodities. Years of underperformance have resulted in underinvestment and neglect on Wall Street.
While the Federal Reserve may be able to solve a banking or pandemic crisis by flooding the system with money, increasing the supply of potash fertilizer, energy, or important metals needed for the EV revolution takes years- sometimes decades to get a resource project up and running.
These cycles are long and you can see the valuation of commodities versus paper assets – think stocks and bonds.
The below chart compares the commodity index to the S&P 500. A rising line shows periods when commodities have outperformed the stock index.
Commodities as you can clearly see are historically very cheap versus stocks and probably a good entry point for investments – which we are implementing for BlueBird accounts.
Energy and basic materials make up about 8% of the S&P500. This sector includes commodities and the industries around their production and development. I have used funds that might invest in pipelines, managed futures, energy production, agriculture products, chemicals and precious metal mining to name a few.
It appears that this trend which has been developing since the March 2020 pandemic low, may have had an accelerant in the form of the Russian invasion of Ukraine thrown into the economic milieu. Russia and Ukraine supply a significant portion of the global demand for natural resources which feeds stomachs and heats houses around the world. This new supply interruption will not likely be solved quickly, thereby prices may rise to destroy demand and encourage more investment. Already food riots are erupting around the globe.
This brings me back to my introduction. The West effectively cancelling the Russian central bank assets may lead to diminished global appetite for US dollars as a safe reserve – for certain countries. The world may be moving towards a multi-polar world order and the transition will not be without conflict as we are witnessing.
This “Exorbitant Privilege” as many call the US dollar being the Global Reserve currency, enabled the US to cheaply borrow money from the rest of the world since they needed the dollar to trade. This kept US interest rates low for decades which benefited all US assets, stocks, bonds, real estate, etc. 
All pricing is determined at the margin. This means that it’s the recent transaction between two parties that sets the price for an underlying asset. Take Apple stock as an example. Every day about $100 million of Apple stock is traded. At the end of the day, the closing price determines the value of this 2.7 trillion company. So about 4% of a transaction determines the value. In economics, pricing at the margin is very important as it is an important signal to which the market pays attention.
If “at the margin” other foreign central banks are afraid of having the reserves seized, then they may be reluctant to add, and possibly could reduce the amount of their US dollars – ie. US Treasury bills. If a major buyer of our government debt is reducing their purchases, this could directly or indirectly cause our funding cost or interest rates to rise to attract new buyers.
In addition, the 40-year trend of global supply lines enabling our cheap prices and “just in time” inventory is changing to “just in case” inventory, which is morphing into regional supply lines. This may directly indirectly lead to increased prices in all of our products.
The good news is that the US is blessed with beautiful assets, from some of the most productive farmland in the world and other natural assets, our highway and river system for transportation, excellent demographics, the rule of law, an enviable university system, a charitable population, and a culture of enterprise that creates the world’s most innovative companies.
The post-World War II economic regime may be changing with opportunities and challenges ahead. Our mission is to inform and guide you of the changes we observe in the markets to the best of our ability. We then craft your hard-earned savings and investments into a plan and process that integrates the investment climate with your financial wellness vision.
Thank you again for your trust and your business. Enjoy your Springtime!
Your team at BlueBird
 Reuters, Russia: Capital controls were tit for tat move after central bank reserves were frozen March 25,2022
 Robin Wigglesworth, Financial warfare: will there be a backlash against the dollar (Financial Times April 7, 2022)
 Barry Eichengreen, Exorbinant Privilege: The Rise and Fall of the Dollar and the Future of the International Monetary System (Oxford University Press September 1 2012)
 Brooke Masters, Supply Chains: companies shift from “just in time” to “just in case” Financial Times December 19, 2021