The stock market ended the second quarter on a sour note.  It has had the worse start for a year in five decades. While this is not exclusively the fault of the current President, his attitude towards inflation, energy production, and social policy, has certainly contributed to the losses.

Starting very early in the year, stocks began to decline, and with only minor rallies interrupting the downward trend, continued to slide throughout both the first and second quarter. If anything, losses have accelerated. Just in the last month, the market slid 8%. Total losses for all indices now exceed 20%, and in the case of the NASDAQ 30%, placing the market solidly in bear territory.

Stocks were not alone, however. Bonds also have been very weak, making the standard 60% stock, and 40% bond asset allocation a loser in both areas. According to market analyst Jesse Felder, this is the worst year for bonds since 1788.

Other areas that usually offer diversification have also failed to help. In particular, the new asset class of cryptocurrencies has collapsed 75-80%, putting those losses within shouting distance of the great market wipe-out for stocks in the late 1920s.

There is growing evidence that the speculative bubble in cryptos has spilled into other markets, due to the manner some were collateralized and leveraged.

Gold has sat on its hands, seemingly impervious to stimuli that normally have sent it higher. Gold bullion has gone essentially flat, which is not a terrible outcome. However, gold mining stocks have been surprisingly disappointing. Both are supposed to go up when other markets go down, so their action has been sub-optimal.

Really only energy stocks and some commercial real estate funds have made any progress against the outgoing tide. Crude oil is up about 40% and the XLE, the ETF representing energy stocks is up about 30%.

The US Strategic Petroleum Reserve is at the lowest level since 1986. As one oil analyst put it, Biden canceled the insurance policy just before flood season. US gasoline stocks are the lowest ever going into the key summer driving season. Despite all that, the chokehold of the green agenda on energy production continues.

Interestingly, many investors were denied the portfolio boost of energy shares because their fund manager or advisor was busy adhering to ESG rules rather than doing the best they could for their client. That is the problem when you don’t act in the interests of your client but instead act in the interests of something as ethereal as the highly subjective as the biased ESG movement. To be a fiduciary means to act in the client’s interests. Instead, many managers posing as fiduciaries act with your money in the interests of the environmental movement, Hollywood stars, or investment managers like Larry Fink at Blackrock. Hopefully, we will see some lawsuits when managers breach their fiduciary responsibilities.

Commodities started the year very robustly, but by the second quarter, many have started to weaken. Whether this is just a correction within an ongoing advance or the beginning of another bearish trend, is not known at this time. Copper prices have been particularly weak. Copper has often been a good indicator of the health of economic demand. Even with the increase in demand from the government forcing the use of electric vehicles, weak prices suggest weak demand.

Even in the face of food shortages, wheat and corn look toppy and have declined from recent tops.

Real estate prices have held up relatively well, but new home sales are starting to sag and there are other signs that real estate, clearly a beneficiary of low-interest rates and easy money, will soon start to join the other victims of excess.

Investor and business pessimism is high. The drop both in commodity prices and sentiment suggests that the market has shifted from fear of inflation, to increasingly, fear of recession. The next big test for the markets is how they will react to falling earnings estimates.

Several times in the past two quarters, short-term rates have come close to exceeding long-term rates. This so-called “inversion of the yield curve”, has been a good predictor of recession, although often there is a time lag of a year or so.

Markets supported by easy money policies suffer when the easy money goes away. That is the fundamental problem for all investments levitated by record easy money conditions.

How long this will continue, is not known. Markets sense that until inflation retreats significantly, tighter policies will continue. The problem is that dominant component of the CPI, such as housing (rental equivalent) are yet to fully make their way into the index. This suggests that posted inflation will stay high for some time. Inflation may come off the peak level, but stay uncomfortably high for several years. This will make it hard for the FED to ease up and take the pressure off markets.

Historically though,  after periods of market outperformance, it is usual for markets both to correct and then provide subnormal returns. Regression to the mean is one of the iron laws of markets, and perhaps that process has simply been delayed by years of ultra-low interest rates and rapid money printing.

It is the symmetry of markets that has many market historians concerned. Periods of excessive speculation and valuation are usually followed by downside action roughly in line with the upside excess. If that proves again to be the case, we are all in for more pain because the upside excess during this cycle was record-breaking.

Psychology plays a role in markets, and one can think of FDR’s famous statement of “having nothing to fear but fear itself.” Good political leadership can certainly help, but it is hard to schmooze your way out of natural corrective forces.

Rising interest rates lower the market’s PE, (the multiple) reduce growth rates and reduce earnings.  It is hard to know if negative psychology is more of a reaction to the market’s retreat as opposed to being a cause of the market mayhem.

But investing does require a leap of faith that things will be better in the future, so psychology plays a major, if not quantifiable role.  We could use some inspiration from leaders that demonstrate they understand the problems and can work within our two-party system to get positive things done.

Unfortunately, in this situation, the market has nothing to fear but political dysfunction itself.

The President hardly helps by blaming others for inflation and expansive money supply growth.

Market participants know we are in perilous times, both domestically and internationally, and it does not help if the chief executive needs to read from a cue card written for someone at the third-grade level.

He is not an inspiring leader.  He comes off as a poorly informed, largely manipulated senile figurehead.  The focus of Democrats is not on fixing the economy but on destroying Donald Trump.  We see a lot of criticism, some deserved, that Trump needs to move along and quit obsessing about the last election. However, little is written about Democrats moving along and dropping their obsessive hatred of Trump.

This is not the kind of leadership from either party that can do much to reverse entrenched negative psychology.

Two things could help.  One would be for the economy to slip officially into recession, giving the Fed an opportunity to back off a bit.  Secondly, a resounding defeat for Democrats in the fall election could signal that the natural balance built into our political system will limit the damage Democrats can inflict on the economy.