Financial markets and inflation: across Q3, the S&P 500 declined by 5.3% and Nasdaq Composite by 4.1%, respectively. Although the indexes declined over the quarter, this decline moderated relatively to Q2 when the indexes declined by 16.4% and 22.4%, respectively. Since Q4 last year, the aggressive uptick in inflation has been a key driver behind aggressive tightening by the Fed. And Fed’s tightening has largely caused the correction this year. However, in June the CPI peaked at 9.1% and declined to 8.5%, 8.3% and 8.2% in July, August and September, respectively. After inflation seems to have peaked in June, this downward pressure on public markets seems to have eased somewhat.

In the short term, markets have already priced in a Fed policy rate of ~4.25% (versus ~3.25% today) – meaning the Fed’s rate hikes at the next two meetings in Q4 is already reflected in asset prices. This means absent surprises, the Fed and markets are in sync.

In the median to long term, it’s expected Fed’s tightening will lead to a mild to moderate recession. However, it’s very important to emphasize that this recession should be a mild to a moderate one. It won’t be severe like the one in 2001 or 2008 when tech and mortgage imploded, respectively. This upcoming slowdown should look more like an adjustment and a period for businesses, consumers, and asset prices to reset in the aftermath of the economic swings between COVID lockdown and coordinated fiscal / monetary stimulus as well as the subsequent imbalances between supply and demand.

For the long-term investor looking at returns in 2024 and beyond, this 2022-23 market correction may provide an attractive entry point.

There are a few ways public markets weakness has trickled down to private markets: a) deals are taking longer to close as power shifts back from founders to investors, and investor underwriting is becoming more stringent. b) There is still significant dry powder across VC/PE funds and corporate balance sheets that should provide a market for investments and M&A. Adobe paid a hefty revenue multiple (50x) to acquire Figma. Buyout firms like Thoma Bravo are taking private publicly traded cloud businesses at 8-10x multiples (more aligned with long-term averages). In the M&A market, we’re learning that acquirers are waiting for interest rates / discount rates to settle in 2023 and then will look to aggressively deploy their dry powder.