Ventures
Given the unseasonably cool Spring here in New York, it came as no surprise the other day when I headed out wearing just a light jacket, that my neighbor – a Chicagoan bundled up in a puffy coat who was concerned I would not be warm enough – stopped me and asked, “have you ventured outside yet?” Smiling, I replied, “no, this is my first venture out,” to which my neighbor added, “yes, into the unknown.” Fair enough, even my short walk to the coffee shop carried potential unknowns – both positive (bumping into a friendly neighbor) and negative (the escalating price of a cup of joe!).
At the moment, two ventures, both of which have potential positives and negatives, have been driving the markets: (i) the U.S. military action in the Middle East and war with Iran; and (ii) the continuing advance of Artificial Intelligence (“AI”). Regarding the war with Iran, from its outset in late February through the end of March, major equity indices dropped 8%, which is not unusual given the general level of uncertainty surrounding any large-scale military action. By April, as investors had time to digest and more accurately assess the potential economic impact of the conflict, market sentiment began turning positive. As of this writing, the war’s ultimate outcome remains unresolved; the two sides are deadlocked. From an economic standpoint, the impact of rising oil prices resulting from the reduced flow of crude through the Strait of Hormuz is now felt at the gas pump and beginning to show up in the official inflation statistics. Oil is a global commodity whose price is built into the price of a wide range of manufactured goods, both directly (e.g., the price of gasoline) and indirectly (e.g., the price of transporting finished goods from factory to market). The most recent inflation report showed an increase in year-over-year inflation of 3.8%, attributable largely to increases in gas and grocery prices. Notwithstanding the immediate impact at the pump, it is still too early to know the full longer-term impact on inflation resulting from the war in Iran. Time will tell and we will adjust, if necessary, as we receive more data.
Artificial Intelligence is not typically viewed as a source of inflation, yet one of the previous unknowns about AI was the extraordinary amount of electricity that would be needed to power the enormous data centers that support AI programs. Now we know. The International Energy Agency estimates that a typical AI data center consumes enough electricity to power 100,000 households, with dramatically larger ones already under construction. That demand is driving up the cost of electricity, which like oil is a broadly used source of power and thus can contribute in the same way to inflation. AI’s insatiable thirst for electricity is part of the overall investor concern with AI, to wit, whether the billions upon billions of dollars spent will ever show a satisfactory return on investment. So far, the large technology players in AI have been reporting strong earnings and all remains well with investors. Worth noting, however, is that several of the large AI firms have laid off thousands of employees to cut expenses, and governments are beginning to formulate regulatory oversight for the industry. While those concerns appear to be clouds on a distant horizon, they bear watching.
Overall, the change of investor sentiment toward the war in Iran combined with the ongoing love affair with AI have helped create a bullish investment climate that has driven equity markets to levels at or near all-time highs. I do not predict how long the current run will last; investor sentiment can change unexpectedly and on a dime. In the meantime, I have maintained our holdings in the equity markets with positions in broadly diversified stock index ETFs for growth-oriented client portfolios. More conservative portfolios continue to hold our equity positions combined with a three-month US Treasury ladder at a blended rate of close to 4%. For income-oriented clients I have continued to maintain positions in diversified dividend and interest generating funds.
No surprise, my short stroll for a cup of coffee was uneventful. Yet it does not change the fact that there are all sorts of movements and activities going on at street level where I live and work, and all manner of things that can happen unexpectedly and require a change in plans. Even on that small scale, the future remains unknown, just as it does on the larger scale of investment markets and world events. As mentioned above, I do not predict what will happen in the markets; I prefer to stay in the present and be with you every step of the way on this journey, observe the markets and investing conditions closely as they unfold, and stand ready to make any necessary and appropriate adjustments to your portfolios in line with your goals and time horizons.
Thank you for investing with MJB Asset Management. I am grateful for your continued support and confidence. If you have any questions about the contents of this letter or any other matters of interest, please give me a call or send me an email. I am always happy to talk with you.
Disclosure: Financial instruments discussed here may not be suitable for all investors. Before investing in any investment portfolio, Client and Financial Advisor should carefully consider the client’s investment objectives, time horizon, risk tolerance, and fees. The opinions expressed here are as of the date reflected and are subject to change. Diversification may not protect against market risk. There are risks involved in investing, including possible loss of principal. Past performance does not guarantee future results.