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Regime Shifts

Last year was one of the most challenging periods in the financial market in recent memories. We suffered one of the worst stock market declines since the global financial crisis/great recession. It was one of the worst bear markets in history for bonds. A balanced fund of 60/40 split between stocks and bonds simultaneously collapsed, resulting in one of the worst performances since 1929.

Entering 2023, many market pundits and experts believe this year may be a pivotal turning point. New regime shifts appear to have developed across asset classes and investment vehicles.

After decades of loose monetary policies from central bankers and very low-interest rates or near-zero interest rates, the dramatic reversal in interest rates last year signals a regime change, possibly suggesting a structural shift. Today, in place of low inflation/disinflation are persistent and stubbornly high inflationary pressures. Low commodity prices have reversed direction and may be entering a period of rising prices, signaling the start of the next super-commodity cycle.

Although an economic recession within the next 12 months is not guaranteed, history suggests the Fed’s tight monetary policies will not end well. Some form of a recession is in the cards.

In the past thirteen (13) Fed hiking cycles, ten (10) ended in a US recession. When inflation is more than 5%, it has often led to a recession. Also, the Fed has never lowered inflation by 4% or more without creating a hard landing.

Will the US economy suffer a normal recession (i.e., shallow and brief) or a prolonged and devastating hard landing (i.e., 2007-2009 global financial crisis)?

From history, structural changes tend to bring about changes in new market leadership shifts. Leaders from the past cycle give way to emerging leaders.

In equities, value-style investing may benefit from this new regime shift. Value has underperformed growth for more than a decade. In an environment of rising interest rates, higher commodity prices, and global geopolitical uncertainties, value investments can begin to outperform their counterparts.

The enclosed monthly chart of SGX/SVX ratio analysis shows 2023 is turning into a pivotal year. The outcome can reaffirm a regime shift from growth to value-style investing.

Small caps outperform large caps emerging from a brief and shallow US economic recession. The attached daily chart of SPX/SML suggests a neutral trading range between 3.156 (support) and 3.526 (resistance). On the other hand, in a severe recession, small caps will underperform large caps.

Dividend-yielding and dividend-growth investments can outperform their higher beta counterparts (Growth) during market uncertainties. The following chart dating back to March 2009, shows the relative performances of six (6) S&P 500 investment styles, including S&P 500 Growth (SPYG), S&P 500 Index (SPY), Vanguard Dividend Appreciation (VIG), S&P Value (SPYV), S&P 500 Dividend Aristocrats (NOBL), and S&P 500 High Dividend (SPYD).

Notice in the past year, the outperformance gap between the relative performances between SPYG and SPY and VIG and SPYV have narrowed. Is this signaling the start of a regime shift toward dividend-yielding investments and value?

Source: Chart courtesy of

Source: Chart courtesy of

Source: Chart courtesy of

Source: Chart courtesy of

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