2022 Investment Outlook

January 20th, 2022

2022: Our Thoughtful View

“There are two times in a man’s life when he should not speculate:  when he can’t afford it and when he can.”  -Mark Twain

A Tale of Two (Plus) Decades

As we look towards 2022 and beyond, it is worth discussing each of the past two plus decades of stock market and economic performance.  Two periods of time which brought about very different results for most investors.  This review is to ensure that we have a fair perspective on both investment and economic achievement, or lack thereof.  In the period beginning in 1999 and ending in 2009 (seems like a long time ago) both stock market performance, as evidenced by the S&P 500 Index, and economic growth were lackluster to say the least.  We may not remember, but it was a frustrating time.

As can be seen in Chart 1 on the previous page, it was a period of time that most equity investors would prefer to forget.  A tech boom ended in a bust (2000-2002), economic growth was choppy, and the “decession” of 2008/09 almost led to the collapse of our banking system.  Annual returns for the S&P 500 Index during this period were a dreary 0.96%. 

This contrasts greatly with the most recent twelve year period that just ended December 31, 2021.  A period of time during which equity returns and economic growth were robust and made us forget the prior eleven year period despite the coronavirus pandemic and the virtual self-imposed depression in 2020.

These charts demonstrate the tale of these two different periods of time.  The past twelve years saw compounded stock market growth of 15.16% per year while economic growth was also quite impressive.  Of significance, S&P 500 earnings growth over this period propelled, in our opinion, a good deal of the impressive stock market gains.  The following chart shows consensus S&P 500 earnings growth historically and projected for 2022 and 2023.  This continuation of earnings growth is typically essential for stock market appreciation.

The powerful combination of earnings growth and growth of the economy is a part of the story of these significant financial gains.  However, commencing with the financial crisis in 2008/09, and exacerbated by the Federal Reserve’s action to help combat the coronavirus pandemic, we have lived through a period of declining interest rates.  This, combined with very low inflation, is another part of the plausible explanation for a much higher stock market in the last decade plus versus the previous one.  As a matter of fact, we believe that equity markets have benefited from negative real interest rates (0% or below since January of 2020) for the 10-Year U.S. Treasury, which historically has occurred very infrequently (real interest rates are the nominal yield minus the inflation rate):

The charts above show just how low both nominal and real interest rates have been.  Another factor in the rising stock market is, to some extent, TINA (an acronym for There Is No Alternative (to stocks)). Should investors accept a 10-Year U.S. Treasury yielding below zero on an after inflation basis (without even considering the fact that the interest is taxable, which reduces returns) or cash with an even worse real return?  For the past few years the 10-Year U.S. Treasury has yielded between 0.5% and 2.8% with inflation at about the same rate, and most recently increasing to 6.8%.  Even prior to the supply chain shortage and energy price increases of late, the real yield for the 10-Year U.S. Treasury has been 0% or worse since January 2020 and that rate is locked in for a ten-year period.  It is no wonder our Dividend Growth strategy has fared so well.  In fact its yield has generally been above that of the 10-Year U.S. Treasury since inception and for the past ten years dividend growth for our strategy has averaged greater than 8%. 

Chart 6 shows the path of inflation over the past forty plus years.  (We chose this time frame because that is the last time we suffered with inflation at very elevated levels.)

Fed Chair Jerome Powell has finally accepted that this rise in inflation is not just “transitory.”  It is elevated in part due to supply shortages, increases in wages, and rising energy costs somewhat related to failed domestic policy, in our opinion.  Additionally, housing costs have increased.  These are real concerns especially for the average family.  Inflation is the cruelest of tax increases (in our opinion).

How Do We Enter 2022?

This analysis was designed to make us all think about the past two plus decades.  The 2010-2021 period was financially rewarding for equity investors, despite COVID-19, but during the prior eleven years many investments and thereby investors failed to keep pace with inflation.  Economic growth spurred by massive governmental relief programs, low interest rates, earnings growth, expanding multiples because of declining and low interest rates (in our opinion), and excess liquidity helped overcome the financial impacts of COVID-19 and the shut-down of the economy in 2020.  However, there has been a price to pay.  Both the Fed and the government have pumped trillions of dollars into our economy to help combat the pandemic and the economic hardships it created.  The Fed kept short-term rates historically low while expanding its balance sheet and the federal government spent trillions of dollars between COVID-19 relief, and most recently, an infrastructure bill.  This has led to record government debt.

The net result is that we can look forward to an economy in 2022 and possibly 2023 characterized by domestic economic growth, continued growing earnings, low but rising interest rates (the 10-Year U.S. Treasury in a range up to 2% to 3% in our opinion); and elevated inflation (which we believe will abate to an extent sometime in the second half of 2022 and level off in a range of 3% to 3.5%).  There is no question in our minds that the Fed, as announced, will begin tapering and conclude its asset purchases while raising short-term interest rates over the next year.  (Tapering could possibly induce long rates to also increase.)  However, we think this will be in moderation, as suggested by our estimate on the 10-Year U.S. Treasury of no more than 2% to 3% (higher long-term rates could be difficult for equity and real estate markets to digest).  Keep in mind that as a country we have to service debt that will soon exceed thirty trillion dollars, so interest rates matter.

How To Invest

Our discipline has always been to customize a prudent asset allocation for our clients.  In recent years this has meant an under-allocation to bonds (with their low to negative real yields), and we will continue this.  A similar under-allocation to internationally domiciled companies  where we have been significantly underweight for quite some time (at least ten years) and that has benefited our clients and we believe will continue to.  We will continue to barbell our allocations to both growth- and value-oriented strategies across market capitalizations.  We remain focused on investments in strong companies which are dividend growers and/or earnings growers, have solid fundamentals, and have proven management teams.  Given the significant wealth appreciation achieved over the past twelve years, we agree with Mark Twain.  Why should our clients, who can afford to speculate, speculate?  We do not believe they should (other than some non-core assets to have fun with, if that is of personal interest).  Therefore, depending on age, income needs, estate planning for the next generation, and the appropriate cash buffer, we continue to stay the course with a long-term view of being fully invested aside from the aforementioned cash buffer.  We will stick to high quality, dividend growing and or earnings growing companies, and quality real estate-oriented investments while avoiding areas of speculation or lack of understandable history.

In the last few years there have been areas of excess or speculation.  An old concept called SPACS (Special Purpose Acquisition Companies) has become the recent rage; a reasonable concept that attracted huge amounts of capital in public pools looking to make acquisitions.  We have avoided this area.  There has been a surge of initial public offerings where valuations were well above what we could tolerate.  Many were extreme multiples of sales, not earnings.  Not for us.  Finally, the surge in cryptocurrencies led by Bitcoin has attracted a lot of attention.  I believe you might compare the concept of block chain or bitcoin to the internet of thirty some years ago.  Perhaps it is the answer to our growing debt and possible debasement of our currency?  It might just be a better hedge against inflation and poor fiscal and monetary policy of our government than gold.  Perhaps more on this asset class in future writings.  We continue to study it.

We do not expect the next ten years to create as much wealth as the last twelve years, but we expect it to generate more wealth than the previous decade (1999-2009).  We will face a down year or two as we have in each of the past decades.  These down years will most likely be brought about by a recession or two.  We cannot predict when that will occur, and at least historically, recessions have coincided with declines in the stock market.

The good news is that, barring an unforeseen and unpredictable event, we do not see a recession on the horizon in the coming year or two.

Final Thoughts

The last twenty plus years have shown us that long term investing does pay off handsomely by staying the course.  However, some periods are better than others and we have just fortunately experienced an excellent twelve year period.  Long-term investing can entail different asset allocations tailored for each of us with a goal of growing our wealth above the level of inflation and after taxes.  To do otherwise will mean a permanent loss of wealth if we give in to inflation or direct too much of an allocation to cash and fixed income with negative real yields.  We can develop asset allocations, without speculation, that we believe can achieve our goal even with inflation at 3%.

Finally, we still face geopolitical hot spots and must stand up to oppressive regimes such as China, Russia, and Iran.  Our own political divisiveness must be overcome to confront issues such as climate change, equality, and the needs of social security and Medicare, as well as ensuring productivity, innovation, and a strong economy and military.  Perhaps 2022 and beyond will find more politicians thinking America and Americans first and party second.  These factors, and others, can at times create volatility and while in the short term that is never enjoyable, having a prudent asset allocation and the appropriate cash buffer (both discussed above) provides for the ability to weather such volatility and focus on long-term investing. 

Enjoy the New Year and let us hope that come this time next year COVID-19 will be in our rear view mirror.  As always, know that you can call on any of us at First Long Island Investors to help with an asset allocation that allows you to sleep at night.

Best regards,

Robert D. Rosenthal

Chairman, Chief Executive Officer,

and Chief Investment Officer

P.S.  We hope that you will join us on February 10th at 11:00 a.m. EST for our market outlook web seminar.  You can register here

The forecast provided above is based on the reasonable beliefs of First Long Island Investors, LLC and is not a guarantee of future performance.  Actual results may differ materially.  Past performance statistics may not be indicative of future results.  The views expressed are the views of Robert D. Rosenthal through the period ending January 13, 2022, and are subject to change at any time based on market and other conditions.  This is not an offer or solicitation for the purchase or sale of any security and should not be construed as such.  References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities.  Content may not be reproduced, distributed, or transmitted, in whole or in portion, by any means, without written permission from First Long Island Investors, LLC.

All performance data presented throughout this communication is net of fees, expenses, and incentive allocation through or as of December 31, 2021, as the case may be, unless otherwise noted.

FLI believes the information contained herein to be reliable as of the date hereof, but does not warrant its accuracy or completeness.  This communication is subject to modification, change, or supplement without prior notice to you.  Some of the data presented in and relied upon in this document are based upon data and information provided by unaffiliated third-parties and is subject to change without notice.


Copyright © 2022 by First Long Island Investors, LLC.  All rights reserved.

Robert D. Rosenthal to be inducted into Hofstra Law Hall of Fame

December 16th, 2021

First Long Island Investors is proud to share that Robert D. Rosenthal, our Chairman, CEO, and Chief Investment Officer will be inducted in the Hofstra Law Hall of Fame.  The Maurice A. Deane School of Law at Hofstra University has established the Hall of Fame to honor alumni whose exemplary careers, or extraordinary service to the betterment of society, or outstanding contributions to the Law School have significantly impacted the Hofstra Law community and beyond. The Hall of Fame inductees were nominated by their peers, and selected by a committee of Hofstra Law alumni, faculty and administrators.

Hofstra University Maurice A Dean Schooll of Law. 50 Years. Hofstra Law Inagural Hall of Fame Inductee. Robert D. Rosenthal '74. Chairmen, CEO, and Chief Investment Officer, First Long Island Investors, LLC

Read full article on Hofstra Law website

3rd Quarter 2021 Letter to Investors

October 25th, 2021

September 30, 2021

  “Quiet people have the loudest minds.” – Stephen Hawking

After five consecutive quarters of robust performance for equities in general (domestic consistently outperformed international and growth stocks led most of the way), the third quarter ended with near flat performance (S&P 500 +0.6%) after giving up 4.7% in the month of September.  Additionally, value outperformed growth in September, but growth still outperformed for the third quarter.  September is typically a soft month for stocks (average decline of 0.5% over the past 70+ years), but this year’s decline reflected a lot of serious issues as well as some noise including a potential government shutdown, a very questionable exit strategy from Afghanistan, genuine concerns about growing national debt and inflation, and concerns about when the Federal Reserve will start to taper its asset buying program (known as quantitative easing).  Of course, the Delta variant, COVID infection rates, and mask and vaccine mandates brought into question the pace of our economic and emotional recoveries from this pandemic.

On top of all of the above, attempts by the Biden administration to pass two major spending bills, possibly aggregating almost $5 trillion, have been the daily headlines.  Progressives want more social engineering and steps to address climate change, while conservatives worry about debt, inflation, and higher taxes on both corporations and high-net-worth individuals.  As of this writing, these legislative initiatives (including traditional infrastructure with bipartisan support) have yet to be passed.  These matters seem to be held hostage by a group of progressive Democrats on the left and two centrist Democrat Senators who are adamantly against the passage of a $3.5 trillion social infrastructure package and who want to limit the spending to no more than $1.5 trillion.  (These appear to be gross numbers, not taking into consideration any potential offset of revenue generated by tax increases.)  Furthermore, several moderate Democrat Congresspeople have suggested they would not vote in favor of the larger bill unless it includes a repeal of the cap on the State and Local Tax deduction (SALT) which is vehemently opposed by progressives who think it is a gift to the rich.  The moderates believe the progressives are failing to realize the wealthy are fleeing high-tax states leaving state revenues somewhat depressed.

With all of the above consuming investors, it is time to be the “quiet people with the loudest minds.”  In other words, let us quietly dive into the fundamentals that should drive investment strategy instead of getting caught up in the loud noise surrounding various issues.  At our recent web seminar, we presented the following chart which shows GDP growth for recent years with projections for next year:

Chart 1: U.S. Real GDP

Certainly these actual and projected results indicate a relatively strong domestic economy rising from the government imposed recession due to the pandemic.  Consumers (both domestic and European) meanwhile have been hoarding cash since the beginning of the pandemic.  This suggests that domestic consumers remain in a very strong financial position and could increase spending when supply shortages abate and the Delta variant is brought under more control.  Certainly this could support the aforementioned GDP growth and possibly support financial markets as well.

Chart 2: U.S.:Accumulated Personal Savings in Excess of Pre-Pandemic Run Rate (Tril. $, Feb '20 =0)

In addition, the actual earnings growth for this same period also presents a positive picture:

Chart 3: S & P 500 Earnings

These actual and projected results (note: projections do not incorporate the potential impact of a corporate tax increase) also reflect a strong showing from the S&P 500.  Strong GDP growth coupled with growing earnings should be supportive of a strong stock market and thus far it has been.  However, valuation has to be considered and in order to gauge the reasonableness of valuation it is our view one must look at current interest rates and where they might go.  This is because we have always believed that interest rates impact valuation of most financial and hard assets.  Accordingly, we offer the following to show just where rates have been and where the Fed projects they are going:

Chart 4: Market Expectations vs. Fed Forecasts as of October 13th, 2021

In our opinion, these low interest rates coupled with growing earnings supported by a robust economy are important reasons why stock prices as well as private equity deal volume and real estate values have risen.  Another factor supporting rising prices in financial assets is the huge liquidity that has been pumped into the U.S. economy:

Chart 5: U.S. M2 Money Growth (SA, Tril. $) 45% increase from 12/3/18 - 8/31/21

Now we can add to the analysis of why we have enjoyed stock market appreciation this additional factor of so much liquidity looking for a home.   Additionally, given the Fed’s concern about getting back to full employment, its appetite to raise interest rates and commence tapering is tempered by a number of factors.  It does not want to strangle an economy rebounding from a pandemic, and it also may consider the impact of higher rates on servicing our national debt.  Every 100 basis point increase in the average cost of our debt would, by definition, increase our deficit by $283 billion a year!  This analysis comes from one of our outside economic consultants Strategas Research Partners, and is supported by the following chart:

Chart 6: total Public Debt Outstanding (Trillions)

Taking stock in all of these points: the growing economy, robust earnings, very low but somewhat rising interest rates, and abundant liquidity, what must we really worry about that could derail this seemingly strong environment for investors?

The first is inflation.  There is no question that supply constraints are at fault for some inflation, although the Federal Reserve believes that currently inflation is transitory.  Our research indicates that inflation will somewhat abate, but over time.  So, some inflation is here for the shorter term.  In addition, oil prices have risen over 50% this year and that is reflected in both gasoline and heating oil costs.  This too adds to short-term inflation and possibly longer term.  It remains to be seen whether the Fed is right and inflation is transitory.  If true the Fed should not have to raise interest rates in order to curtail inflation.  If inflation is longer term in nature there would be greater pressure on the Fed to taper and ultimately raise rates. The pace and magnitude of any such rate increases could affect pricing of financial assets.  The market’s current expectations were shown earlier in chart 4 on page 3.

Another factor weighing on investors is the current debate on spending in Washington, D.C.,  If the progressives get their way and new (not including the COVID relief programs which equaled nearly $7 trillion) spending programs of $3 trillion to $5 trillion are passed, this too could lead to even higher national debt, higher interest rates, and inflation.  The higher taxes that are proposed at both the corporate and individual levels could somewhat depress corporate earnings as well dampen consumer spending.   Of course, these are our opinions and I’m sure some would differ.  Centrist Democrat Senator Joe Manchin has called this potential spending “fiscal insanity.”

Where does this leave us as investors?

Growing GDP, higher forecasted corporate earnings, historically low interest rates, a strong consumer, and the current abatement of COVID infections are factors that would lead us to some optimism for the balance of the year and into 2022.  On the other hand, we must watch the rate of inflation, the ultimate outcome of the current spending and tax debates in Washington, D.C., and what preemptive actions the Fed takes, if any, if inflation proves not to be transitory.  Also, and not to be forgotten, is that equity markets do correct (declines of at least 10%) from time to time.  We have not had such a correction this year, although in September we experienced the first drawdown of approximately 5% from the recent market high.  In past years since 2009 the average number of 5% drawdowns has been approximately two per year, with only 2017 not having such a drawdown.  (That is not unprecedented, but it is unusual.)  For the record, the fourth quarter is typically a strong quarter for equity markets having risen on average 2.7% during the quarter when looking back historically to 1928.

Exercising caution and taking into consideration valuation of stocks and bond yields, we remain underweighted fixed income as a negative real yield (absolute yield minus the inflation rate) on an after-tax basis for treasuries as well as investment grade corporates and municipals is not something we can ignore.  Compounding a negative real return is a prescription for loss of purchasing power.  We do not see a recession in the near term thus we do not believe interest rates will decline.  Additionally, trying to reach for yield by buying longer-term bonds will cause mark-to-market losses if rates tick up.  We continue to suggest an overweight to our in-house defensive strategies which have performed well for many years and include both large-cap growth and value companies which in our opinion, provide opportunities regardless of how the economy performs based on what Washington, D.C. decides to do, if they can decide to do anything.  Each of our defensive strategies aim to protect on the downside, which should help if we encounter greater volatility.   We remain modestly underweight traditional equities given fairly robust valuations which somewhat corrected in September.   Please keep in mind that neither the traditional nor social infrastructure spending bills are an immediate positive catalyst to the economy.  Those funds, if approved, will be deployed over a number of years.

In summary, we remain committed to being fully invested with a modest cash buffer depending on each client’s personal financial situation.  Our strategies give both growth and value ample exposure (in both our defensive and traditional equity baskets) to reward long-term secular growth while also having exposure to some cyclical strength and dependable dividend streams.  Fine-tuning asset allocations can be done once we see where Washington, D.C. sorts out its current battles, how transitory inflation really is, and when we can anticipate the Fed starting to taper asset purchases and ultimately raising interest rates.  At this time we see the Fed beginning to taper later in the year or early in 2022 and completing that process sometime in the second half of 2022.  Based on recent statements by Fed Chair Powell (who is up for re-nomination in February of 2022), he does not expect rates to rise until after tapering has concluded.  Of course, everything is data-dependent.

These are certainly interesting times for investors given the confluence of a pandemic, excess liquidity, a growing economy, cash-strong consumers, rising inflation, and political battles not just between the Republicans and Democrats, but within the Democrat Party.  As our quote suggests, now is the time to be quiet, think, focus on fundamentals, and let our minds, not the noise, direct our long-term investing.

Enjoy the fall and upcoming holiday season.  Please do not hesitate to call or meet with us.

Best regards,

Robert D. Rosenthal

Chairman, Chief Executive Officer,

and Chief Investment Officer

P.S. We will be putting out a piece on any significant tax changes if they occur from the current legislative debates and our view on any investment impact.

*The forecast provided above is based on the reasonable beliefs of First Long Island Investors, LLC and is not a guarantee of future performance. Actual results may differ materially. Past performance statistics may not be indicative of future results. Partnership returns are estimated and are subject to change without notice. Performance information for Dividend Growth, FLI Core and AB Concentrated US Growth strategies represent the performance of their respective composites. FLI average performance figures are dollar weighted based on assets.  

The views expressed are the views of Robert D. Rosenthal through the period ending October 22, 2021, and are subject to change at any time based on market and other conditions. This is not an offer or solicitation for the purchase or sale of any security and should not be construed as such.

References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities. Content may not be reproduced, distributed, or transmitted, in whole or in portion, by any means, without written permission from First Long Island Investors, LLC.

Copyright © 2021 by First Long Island Investors, LLC. All rights reserved.

Fall 2021 Market Update Web Seminar

October 4th, 2021

2021 thus far has been a good year for investors and the domestic economy. The post shut-down recovery has been robust and we expect that to continue into 2022. While this is good news, there are still many worries on the minds of investors. In this web seminar we will share our current outlook for the markets as well as how we are positioning client portfolios for long-term growth.

2nd Quarter 2021 Letter to Investors

July 29th, 2021

June 30, 2021

“With a good perspective on history, we can have a better understanding of the past and present, and thus a clear vision of the future.” – Carlos Slim Helu

We are pleased to report that the second quarter, and for that matter year-to-date, have been very good for investors, the domestic economy, and the fight against the coronavirus at home.  All of our strategies in our defensive and traditional equity baskets ended the quarter having produced substantial absolute returns following the robust economic recovery from nearly shut down domestic and global economies a year ago, while combatting the COVID-19 virus.  Massive fiscal (five trillion dollars resulting in M2 growth of 32% since the start of the pandemic) and monetary policies (zero interest rates and asset purchases by the Fed) coupled with strong domestic consumer confidence led to a strong reopening of the domestic economy.

Exhibit 1: Consumer Confidence 
(SA, 1985=100)

Examples of some positives in fighting the pandemic and the reopening of the economy can be seen in the exhibits here:

Exhibit 2: COVID-19 in the United States
Exhibit 3: Employment

The essence of the above demonstrates the success of the vaccination rollout by the current administration using the three vaccines created during the previous administration, and the corresponding reopening of our economy.  Strong GDP growth prior to the pandemic contributed to the robust reopening of the economy as a result of pent up consumer demand, as shown in Exhibit 4.

Exhibit 4: U.S. Real GDP

Meanwhile, the S&P 500 Index (as well as other key domestic indices) and the earnings of those companies have both achieved record levels:

Exhibit 5: S&P 500 Earnings

All of the above exhibits attempt to give substance to the thought that understanding history as well as the present can help us visualize the future.  (Albeit, we know that history is only a guide and past performance is not a guarantee of future results.)  The above strongly suggests that through a robust vaccination rollout the economy has reopened with velocity.  The velocity is reflected in the economic growth led by the strong consumer and the growing employment evidenced by the declining unemployment rate.  What we can observe is that there was a very strong economy prior to the pandemic; then that economy virtually shut down; employment and economic growth cratered; and with the rollout of the vaccination program and a strong (and pent-up) consumer, the economy has bounced back sharply!

Exhibit 6: S&P 500 Index vs All Country World Index (indexed to 100)

As shown above, domestic continues to outperform international.  Additionally, we believe that depressed segments of real estate have also seen a recovery.  (We witnessed this with the rebound in both apartment and hotel occupancy rates and performance in various markets throughout the country.)  So all seems very good.  With a pandemic on the run (except for the Delta variant and areas with low vaccination levels), stock markets at record levels, strong employment gains, robust earnings gains for the S&P 500 Index, still very low interest rates, and major banks having just passed their stress tests (and now permitted to raise dividends and buy back shares) where is the worry?

The Worry

It would be imprudent for us not to worry when things appear so good and in many instances they are very good.  However, the specter of higher inflation is a current worry, and one that is being felt by most (i.e. food, gas, home prices). 

Exhibit 7: Consumer Price Index (Inflation)

The concern about inflation has many suggesting that the Fed should act sooner rather than later to stem what could be higher inflation by raising interest rates and tapering its asset purchases (another worry).  History tells us that should the Fed raise interest rates quickly it could result in a lower stock market through contracting P/Es (for example, when the Fed raised rates in the fourth quarter of 2018, the stock market fell sharply), and lower earnings resulting from higher interest costs for certain businesses. Others suggest that a moderate rise in interest rates over time does not disrupt equity markets. Exhibit 8 below depicts how the stock market has reacted to rising 10-Year U.S. Treasury yields. 

Exhibit 8: S&P 500 Performance During Periods of Rising Rates (Annualized)

The pace of potentially higher interest rates could derail some of our happiness.  However, there is another factor to consider and that is the current debate on yet more government spending through both “traditional” infrastructure legislation (suggested at $1.2 trillion) and the other possibility of the President’s proposed American Families Plan (suggested at nearly $1.8 trillion).  These are mere estimates being bandied about (extreme progressives in the Democrat Party would like even higher spending).  But what is also being proposed are significant tax increases on both business and high-net-worth individuals.  These possible tax changes would apply to ordinary and investment income, corporate income, and estates.  These potential changes could slow our economy and negatively impact corporate earnings as well as investor behavior.   Our existing bloated debt of $28 trillion most likely will increase with infrastructure spending (some of which both parties deem necessary).   Bottom line, there are numerous serious factors to worry about which constitute the current “wall of worry.”  Given these and other worries, unabashed optimism among investors is not a worry for us at this point, as it does not exist from what we can see and hear.

Summary and How to Invest

We enjoyed a great quarter and the year-to-date is most satisfying, especially after a robust 2020 despite the ravages of the pandemic.  When Warren Buffett once said never bet against America, he was right.  We closed down, worked to combat the virus with three vaccines, rolled them out with much success, and reopened our economy with vigor and at what many would consider “warp speed.”  This recovery in the economy will continue into 2022 in our opinion.

Yet, the prospects of inflation and the eventuality of higher interest rates (in our opinion) are causing some to consider partially hitting the exits.  Also, the unknowns revolving around infrastructure spending and tax increases are making many queasy.  Addressing what is a fair amount to pay in taxes and how do we close the income and wealth gap is also on many minds in ones’ kitchens as well in Washington, DC among our lawmakers.  How do we accomplish tax increases and social engineering without negatively impacting our economy in the long term?  That is the ongoing debate.

We know from history (fourth quarter of 2018) that missteps by the Fed in announcing monetary policy changes can hurt the stock market.  Our view is that the Fed is watching the high number of people still unemployed and the low labor force participation rate.

Exhibit 9: (US Civilian Labor Force Participation Rate (16 yr+, SA))

Given the above and the Fed’s dual mandate of employment and price stability, we expect the Fed will continue to be accommodative while maintaining (until data suggests otherwise) that much of the inflation we are currently experiencing is probably “transitory.”   Accordingly, we believe the Fed will err on the side of keeping rates low until mid to late 2022 while watching inflation closely and expecting employment to continue to rebound.   A 2% 10-Year U.S. Treasury (it ended the quarter at 1.45%) by year end would not be disruptive in our opinion to equity markets and investing in general.  We would expect rates to continue to moderately rise in 2022 driven by market forces in anticipation of some Fed change in policy.

Given our concern about current valuations being on the somewhat high side (but not for all companies), and the potential impact of higher rates, we remain with a somewhat defensive tilt (our clients certainly did not suffer as our defensive basket of strategies made meaningful gains in the quarter and thus far in 2021).   Traditional value strategies, typically more cyclical in nature, ended 2020 and started this year trouncing growth strategies for the first time in years but the second quarter was more about growth (large-cap growth advanced 1,193 basis points while large-cap value advanced 521 basis points).  Thus, our view of having long-term allocations to both remains our conviction.   It is also generally part of our investment process to seek out companies that have pricing power should input costs need to be passed through.  Short duration bonds (despite their pitiful returns) are also part of our current conviction given our belief that the longer-term bias will be to somewhat higher interest rates and thus more attractive yields will present themselves at a later point (which would adversely affect the values of longer maturities).  We continue to underweight allocations to fixed income as the real return after inflation for many bonds is still negative.

Finally, we all must remain vigilant against COVID-19.  I would very strongly encourage those not vaccinated, other than for medical or religious reasons, to discuss their decision with their doctor as the CDC has repeatedly reported that the reward of being vaccinated vastly outweighs the risks.  Of course this is not medical advice – so we urge anyone that is not vaccinated to consult with their doctor to make an informed decision.  We should all feel more secure if we go through the next six months with limited outbreaks.  With continued vaccine adoption there should continue to be a decline in infection rates and furthermore we will not have to worry about the economic impact from another shut down.

Always think long term with reasonable diversification when creating or altering one’s investment plan and consider maintaining a modest cash buffer for the inevitable volatility that has always characterized an investing environment with the predictable but unpredictable “wall of worry.”  History would suggest that the long-term investor has been rewarded by taking prudent risk among proven asset classes characterized by quality and financial strength while avoiding areas of speculation, leverage, and too much cash (especially with rates as low as they are).  We constantly monitor our clients’ asset allocations to reflect long-term thinking while having a view of the future.

Please enjoy the summer and feel free to call upon us at FLI for any of your wealth management needs.  We remain available, and will certainly reach out to you with updates, seminars, and webinars, including a commentary on changes in tax legislation to both businesses and high-net-worth individuals should they become reality.

 Best regards,

Robert D. Rosenthal

Chairman, Chief Executive Officer,

and Chief Investment Officer

P.S. Sorry for the length and number of exhibits, but given what we as investors have had to navigate this thorough explanation should be helpful as we view the future.

*The forecast provided above is based on the reasonable beliefs of First Long Island Investors, LLC and is not a guarantee of future performance. Actual results may differ materially. Past performance statistics may not be indicative of future results. Partnership returns are estimated and are subject to change without notice. Performance information for Dividend Growth, FLI Core and AB Concentrated US Growth strategies represent the performance of their respective composites. FLI average performance figures are dollar weighted based on assets.  

The views expressed are the views of Robert D. Rosenthal through the period ending April 26, 2021, and are subject to change at any time based on market and other conditions. This is not an offer or solicitation for the purchase or sale of any security and should not be construed as such.

References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities. Content may not be reproduced, distributed, or transmitted, in whole or in portion, by any means, without written permission from First Long Island Investors, LLC.

Copyright © 2021 by First Long Island Investors, LLC. All rights reserved.