We’ve been writing since early 2022 that if the Fed hopes to subdue inflation, they will have to get more aggressive than the market has anticipated this year – and that stocks would suffer and corporate bond prices would widen, pushing prices down further than just the effects of raising interest rates.
Remember less than a year ago when Powell was calling inflation “transitory?” Well, after being chastised by the economics community (as well as by us) for being late to the inflation-fighting game, his August 26th speech in Jackson Hole finally clarified that the Fed will, in fact, focus on taming inflation. Powell also directly addressed the reality that, after months of dancing around the idea of a soft landing, our economy will need to endure pain to get inflation under control.
“Restoring price stability will take some time and requires using our tools forcefully to bring demand and supply into better balance. Reducing inflation is likely to require a sustained period of below-trend growth. Moreover, there will very likely be some softening of labor market conditions. While higher interest rates, slower growth, and softer labor market conditions will bring down inflation, they will also bring some pain to households and businesses. These are the unfortunate costs of reducing inflation. But a failure to restore price stability would mean far greater pain.”
On Wednesday last week, September 21st, the Fed raised the funds rate 75 basis points for the fourth consecutive meeting, bringing the rate to 3.00%. Of more importance was Powell’s commentary in which he again repeatedly noted the need for higher rates, that rates would be higher for longer, and the expectation that the economy would endure pain.
Powell noted that unemployment, which unexpectedly ticked up to 3.7% last month, is likely to rise to ~4.5% (18 of the 19 Federal Open Market Committee participants expect unemployment to rise above 4.0%, an unusual consensus for the committee).
Interestingly, the stock markets actually rose during Powell’s remarks, though fell dramatically as the messaging sank in. Peaking at $3,907 on the afternoon of the 21st, the S&P 500 fell to $3,695 by mid-morning the following Friday, a 5.5% decline that brought year-to-date losses to nearly 22.5%. It has since fallen further to $3,640, a new low for 2022. Meanwhile interest rates, particularly at the short end of the curve, have continued their upward march.
Our pessimism on rising rates and widening spreads has been consistent throughout the year. That pessimism is reflected in more short-duration investments (1.0 years) vs. a long-term target in the 4.0-year range, and our high quality focus on Treasuries or cash.
Given the low rates and tight credit spreads earlier in the year, we have been judicious in our deployment of capital. With rates higher and spreads wider, our appetite for deploying capital is now increasing. While securitized solar loans barely yielded 4.0% in early 2022, the highest quality now yield over 5.0%, while riskier yields can exceed 7.5%.
As rates begin to stabilize at these now higher yields, the prospects for bonds to outperform stocks increases as well. While the stock market decline to date is largely predicated on higher rates (specifically, because the discounting of future earnings at higher rates results in lower present values and therefore lower stock prices), earnings have largely held up and revisions to earnings expectations have yet to take hold.
As the Fed slows economic activity, corporate earnings will begin to soften – often the precursor to a second leg down in stock valuations. First, static earnings get revalued due to higher rates, then the reality of higher rates impacts earnings. Meanwhile, as rates stabilize at higher levels, fixed income investments, particularly in private credit, clip income at a higher rate.
While staying conservative year-to-date could have cost income, it has also protected principal from the 13.6% decline in the Bloomberg High Yield Index, the 13.8% decline in the Bloomberg U.S. Aggregate Bond Index, the 17.2% decline in the Bloomberg U.S. Corporate Bond Index, and the 21.5% decline in the S&P 500; meanwhile, private credit (represented by the CDLI) was up 2.3% at its last reporting on June 30th.
Required Disclosures:
Investors should carefully consider the investment objective, risks, charges, and expenses of the Fund before investing. This and other important information about the Fund is in the prospectus which can be obtained by contacting your financial advisor or by calling 844-4-FINITE. The prospectus should be read carefully before investing.
The Finite Solar Finance Fund is distributed by Foreside Fund Services, LLC.
Some of the Risks of Investing in the Fund:
An investment in the Fund is speculative with a substantial risk of loss. Investors should consider their investment goals, time horizons and risk tolerance before investing in the Fund. An investment in the Fund is not appropriate for all investors, and the Fund is not intended to be a complete investment program. See “Risk Factors” within the Prospectus to read about the risks you should consider before buying the Fund’s Shares.
The Fund is newly organized, and its Shares are not listed on any securities exchange and no market for the Shares exists or is expected to develop. In addition, the Fund’s investments in Solar Assets will primarily be investments in Solar Loans and other alternative lending-related securities, which have special risks as described in more detail with the Prospectus (linked above).
Before investing, you should read the Fund’s Prospectus regarding the Fund’s risks. These risks include, but are not limited to, those outlined below:
An investment in the Fund is not suitable for investors who need certainty about their ability to access all of the money they invest in the short term. You may not have access to the money you invest for an extended period of time.
The Fund has implemented a Share repurchase program, however, the Fund is not required to repurchase more than 5% of its outstanding Shares each quarter. Shares will not be redeemable at a Shareholder’s option nor will they be exchangeable for Shares of any other fund. Investors should therefore consider Shares of the Fund to be an illiquid investment. You should not expect to be able to sell your Shares (other than through the repurchase process), regardless of how the Fund performs.
Because you will be unable to sell your Shares at the time of your choosing or have them repurchased immediately, you will find it difficult to reduce your exposure on a timely basis during market volatility.
Although the Fund is not permitted to invest in loans that are of subprime quality at the time of investment, an investment in the Fund’s Shares should be considered speculative and involving a substantial degree of risk, including the risk of loss of investment. There can be no assurance that payments due on loans or other alternative lending-related securities in which the Fund will invest will be made.
At any given time, the Fund’s portfolio may be substantially illiquid and subject to increased credit and default risk. The Shares therefore should be purchased only by investors who could afford the loss of the entire amount of their investment.
The Fund intends to accrue and declare dividends daily and distribute them on a quarterly basis; however, the amount of distributions that the Fund may pay, if any, is uncertain. The Fund may pay distributions in significant part from sources that may not be available in the future and that are unrelated to the Fund’s performance, such as from offering proceeds, and borrowings. A portion or all of any distribution of the Fund may consist of a return of capital and may result in potentially adverse tax consequences to the Fund or its shareholders.
The Fund’s distribution policy could result in a return of capital, resulting in less of a shareholder’s assets being invested in the Fund and, over time, potentially causing the Fund’s expense ratio to increase.
The distribution policy also may cause the Fund to sell a security at a time it would not otherwise do so.
If the borrower of the loan or other alternative lending-related security in which the Fund invests is unable to make its payments on a loan, the Fund may be greatly limited in its ability to recover any outstanding principal and interest due under such loan, as (among other reasons) the Fund may not have direct recourse against the borrower or may otherwise be limited in its ability to directly enforce its rights under the loan, whether through the borrower or the platform through which such loan was originated, the loan may be unsecured or undercollateralized, and/or it may be impracticable to commence a legal proceeding against the defaulting borrower.
Substantially all of the Solar Assets in which the Fund invests will not be guaranteed or insured by a third party or will not be backed by any governmental authority.
Prospective borrowers supply a variety of information regarding income, occupation and employment status (as applicable) to the alternative lending platforms that may originate or source loans. As a general matter, platforms do not verify the majority of this information, which may be incomplete, inaccurate, false or misleading. Prospective borrowers may misrepresent any of the information they provide to the platforms.
Under the 1940 Act, the Fund may utilize leverage through the issuance of preferred stock in an amount up to 50% of its total assets and/or through borrowings and/or the issuance of notes or debt securities in an aggregate amount of up to 33 1/3% of its total assets which could magnify losses as well as gains. There can be no assurance that any leveraging strategy the Fund employs will be successful during any period in which it is employed.
The Fund’s gross expense ratio is 2.51% without leverage, or estimated 3.23% with 25% leverage. Expense ratios are annualized and calculated as a percentage of estimated average total assets.
