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In our last update, we declared that the decade-long party of low rates and quantitative easing was officially over. Spooked by inflation that proved to be anything but transitory, the Federal Reserve began raising interest rates in March and began reducing its balance sheet in earnest in the late summer. Following the Fed’s lead, global central banks have scrambled to keep up the pace despite facing significant economic and geopolitical challenges, tightening global financial conditions dramatically and slowing growth with a lagged effect. The bar is closed and the hangover is just beginning. The biggest economic headache so far has been uncertainty. The impacts of exceptionally hawkish monetary policy combined with a sharp reduction in fiscal stimulus are still mostly unknown. There’s no question there will be unintended consequences given the pace of tightening and our complex and interconnected financial system, but we still don’t know what they will be, when they will appear, and how policy makers will respond. It can take months for the effect of higher rates to filter through the economy, although some cracks have started to appear. The most concerning outcome thus far has been the strength of the US dollar relative to nearly every other global currency. Through 9/30, the DXY dollar index (which tracks the value of the dollar against a basket of major currencies) has risen over 17% year-to-date and gained over 6% in the third quarter alone.[1] The resulting weakness in the yen forced the Bank of Japan to intervene in their currency markets for the first time since 1998.[2] The situation in the UK has been even more dramatic. In late September, following the Fed’s decision to hike rates by 75 basis points and the release of a mini budget in the UK deemed to be inflationary, the pound dropped over 5% against the dollar in just a few days, sparking a liquidity crisis in the UK bond market. The Bank of England has stabilized the situation for now by purchasing gilts, but it is a solution that risks worsening the problem in the long run.[3] Why is the dollar so strong? Because the dollar is the world’s global reserve currency, other countries need dollars for reserves to stabilize their own currencies, participate in global trade, and pay their USD-denominated debt. Among global central banks, the Fed was the first mover in tightening and has had the luxury of fighting inflation more aggressively since the US is more insulated from the geopolitical challenges and energy crisis faced by Europe. This has had the effect of removing more dollars from the system than other currencies, making the dollar more scarce and therefore more valuable for those who have no choice but to buy dollars. It is akin to a slow squeeze that looks likely to continue until the Fed changes course. Why is a strong dollar a bad thing? After all, a strong dollar should help us fight inflation by reducing the cost of imports. Unfortunately, the benefits of cheaper imports are outweighed by the costs. The US economy is part of the global economy and can’t be viewed in isolation. As exports become more expensive, they make American businesses less competitive globally. Slowdowns in the economies of our major trading partners caused by currency weakness and responses to it will have ripple effects that slow growth globally. In a worst-case scenario, a dollar that is too strong could trigger debt crises in both emerging and developed markets. For now, the Fed has not signaled that they will back off tightening in response to the strong dollar. But, like the drunk at the bar begging for “just one more” after last call, hope springs eternal. Equities sharply rallied over the summer on the narrative of a Fed pivot and then sold off in September when the pivot failed to materialize. We still don’t see any evidence in the labor market or inflation data to support a change in the Fed’s trajectory. Job openings fell slightly in September but there are still 1.7 jobs for every jobseeker and the unemployment rate fell to 3.5%, the lowest level since 1968.[4] We think they will keep tightening until something breaks and they are forced to switch gears and support market functioning. We are not at the “something breaks” point yet, but we are getting closer, and it is not just the dollar we need to worry about. Mortgage rates continued their relentless move upward and ended the quarter at 6.9%.[5] Housing prices have not dropped by nearly enough to offset higher rates, pushing affordability to extremely low levels. Office vacancies are high and rising as workers are rejecting demands to return to the office and companies look to pare costs ahead of a slowdown, which has the potential to ripple through the Commercial Mortgage-Backed Security (CMBS) market. The financial services sector is beginning to look vulnerable. Credit Default Swap (CDS) spreads on Credit Suisse, which measure the cost to insure their bonds against default, spiked in late September to levels worse than 2008.[6] CDS spreads also widened for other European and even US banks, implying rising default risk at many global strategically important financial institutions. Any of the above could be the catalyst for the Fed to pause or pivot, even against the backdrop of a strong labor market and high inflation, bringing back a risk-on environment. Before that happens, though, we would expect to see even more pain in markets. Our portfolios will remain positioned defensively until it becomes clear that the Fed cannot continue.

Watch the online replay of the Climate & Capital Conference, held on September 21st at the iconic New York Stock Exchange. The event brought together industry leaders in investment, business, and climate communities to discuss pertinent climate topics including strategies to align capital with climate commitments, ways to engage with corporate issuers on decarbonization strategies, solutions to measure and manage climate risk and uncover opportunities, and much more. WATCH ONLINE REPLAY Confirmed speakers include: Rostin Behnam, Chairman, Commodity Futures Trading Commission Michelle Dunstan, Chief Responsibility Officer & Portfolio Manager, Alliance Bernstein Chandler van Voorhis, Manager & Co-Founder, GreenTrees Matt Diserio, President, Water Asset Management David Sher, CEO, Greenbacker Capital Management VIEW FULL AGENDA

ESG has received a good deal of criticism as of late, accused of greenwashing by the political left and woke investing by the political right. In this episode of TheIMPACT, Jeff speaks with Judy Samuelson, Founder and Executive Director of The Aspen Institute Business and Society Program and author of The Six New Rules of Business: Creating Value in a Changing World. Judy deeply believes that we need big business at the table to solve the world’s most complex problems, such as climate and inequality. The Aspen Institute dedicates itself to creating change through dialogue, leadership, action, and by supporting and investing in change agents who working inside large enterprises.

September has historically been the worst month for stocks, which have fallen a median 0.42% and experienced negative returns over 55% of the time going back to 1928.[1] And while not much else in the market is performing as it usually does in this very unusual year, stocks have so far followed this historical pattern. Through the close on 9/16, the S&P 500 has lost 2.1% and the MSCI ACWI has fallen 1.6%,[2] though most major indices remain well in the green quarter-to-date. Seasonality is only one of many factors, however, that are pushing stocks lower as we approach the end of the third quarter. The most important driver continues to be expectations about future Federal Reserve moves and, by extension, data releases that could influence the Fed’s decision making. Inflation, consumer, and labor market data critical to forecasting the Fed’s next moves were released the week of September 13th. August CPI was higher than expected at 8.3% in a report that indicated inflationary pressures were becoming more widespread and spreading to services. Services inflation is less correlated to energy prices and supply chains, making it stickier and more difficult to combat. Retail sales were stronger than expected at 0.3% month-over-month in August. The labor market continued to show strength with both initial and continuing jobless claims lower than expected and hovering near record lows. Paradoxically, this good news was not seen as a positive in markets because this strength will allow the Fed to tighten aggressively. The S&P posted its worst daily performance since 2020 following the CPI release and the market now anticipates 75-100 bp in rate hikes at the Fed meeting next week. Stubbornly high inflation and a growing acceptance that the Fed means business have put pressure on bonds. The Bloomberg Aggregate Bond Index lost another 2.2% so far this quarter on top of a 10.4% loss in the first half of the year. Almost all of these losses have been driven by rate increases rather than a widening of credit spreads that one typically sees during recessions and market selloffs. We remain cautious on credit-sensitive fixed income (ex. high yield, corporate bonds and floating rate loans) for this reason. We are also in the midst of one of the most dramatic yield curve inversions in history with the 2-year Treasury yield of 3.87% significantly above the 10-year Treasury yield of 3.45%. While the shorter end may continue to move higher to price in additional Fed rate increases, the sensitivity of shorter-term bond prices to rate increases is much less than longer-term bonds. Given that, we are finding more opportunities with less downside risk at the shorter end, with higher yields providing a cushion against price declines. Fixed Income Mutual Funds vs UMA/SMA We are approaching the final quarter of a year that has already been difficult for bond investors and, with the Fed continuing to hike rates and pare its balance sheet, additional volatility is likely. While we offer both mutual fund and UMA model portfolios to our clients to accommodate a wider range of account sizes, we believe there are clear advantages to investing in individual bonds via a UMA or SMA rather than mutual funds if account minimums can be met. Bond mutual funds share many similarities with stock mutual funds but are not the same due to the nature of the underlying investments. Stocks tend to be more liquid since most issuers only have one common equity outstanding. Bonds are less liquid since a given issuer can have dozens of different bonds outstanding with varying maturities, yields and terms. Bonds are also issued by non-corporate entities like municipalities and governments, and each adds to market fragmentation. Stocks tend to trade with narrow bid/ask spreads and large quantities can be traded on dark pools without immediate market impact. Bonds, on the other hand, can be vulnerable to air pockets when the price temporarily falls rapidly when multiple market participants must sell at the same time. A rising rate environment is generally bad for bonds. As an example, imagine you bought a corporate bond in 2020 with a 2% coupon (equal to $20 annually) when the 10-year Treasury yield was only 0.5%. Despite the low coupon rate, the yield was higher than the risk-free rate, so you were willing to pay par ($1000) for the bond. Today, with the 10-year Treasury rate over 3%, that bond is no longer attractive at $1000 with only a 2% coupon. The price will have to fall so that the $20 in annual coupon payments equates to a higher effective yield that is more in line with market rates. This sensitivity to rising interest rates is directly related to how much time is left before the bond matures. The longer until maturity, the more the price will have to drop to equalize the yield with market rates. If you are a long-term investor planning to hold the bond to maturity, assuming the corporation does not default, these short-term price fluctuations don’t change the fact that you will receive your coupons regularly and your principal back in full at maturity. If the income that was being generated off the bonds was sufficient prior to the rate increase, and interest and principal are reinvested into newer, higher-yielding bonds, the investor does not actually realize a loss. Unfortunately, this is not the case for investors in bond mutual funds. Unlike an individual bond, a bond mutual fund has no stated maturity or coupon rate. Instead, the portfolio consists of many bonds that are bought and sold when the managers wish to alter the positioning, or when inflows or outflows require it. If redemption requests exceed cash in the portfolio, managers must liquidate bonds to meet the requests. If the issue is market wide, then many funds are likely to experience above-average outflows simultaneously. This forces the fund managers to sell at a time when there may not be many buyers and results in losses for the investors who remain in the fund. Actively managed bond strategies like the ones we use in our UMA models are not buy-and-hold strategies so there is potential for loss if bonds are sold, but the decision to sell will be based on what is best for the investor. The actions of other investors in the strategy will not have an impact because each investors’ account is separate. Clients with a capital preservation objective who have assets sufficient to meet bond manager minimums could benefit from shifting from a managed mutual fund approach to bond investing to a fixed income SMA, or to a full asset allocation UMA that combines both equity and fixed income managers in a single account.

Since we published our quarterly market commentary last month, a lot has changed in the markets despite any materially positive change in the economic data or in the Federal Reserve’s messaging. Stock markets have rallied considerably. Since the end of the second quarter through August 15th, the S&P 500 is up over 9% and the Nasdaq is up more than 12% driven by a decent earnings season, optimism that inflationary pressures have peaked, and speculation that the Fed may not be as hawkish as its communications would indicate. Interest rates have also dropped considerably, with the 10-year Treasury falling from its June peak of nearly 3.5% to a low of around 2.6% before rebounding in August to 3.1%. Market participants are rejecting the “Don’t Fight the Fed” strategy in favor of calling its bluff. [1] Who will win out in this battle royale? Our money is on the Fed. While there has been some improvement in inflation (July CPI dropped to 8.5% from 9.1% in June), inflation remains extremely elevated relative to history and the current Fed Funds rate of 2.5%. [2] The July decline was driven by a sharp drop in energy prices but was offset by rising inflation in other areas, especially food and services. Certain components of inflation, particularly housing costs, are on a lag. Rents have been increasing at double-digit rates for the last year and will continue to exert upward pressure on inflation for up to a year, even if they stabilize at these higher levels. We think it is mathematically unlikely that inflation will fall below 6% by the end of the year, which is still twice the current Fed Funds rate. Second quarter earnings season appeared strong on the surface. As of August 4th, with 87% of S&P 500 companies reporting, earnings grew 6.7% year-over-year, the strongest growth since 2020. We believe this robust earnings growth must be taken with a grain of salt. The energy sector reported an eye-popping 299% earnings growth as energy companies cashed in on skyrocketing gasoline prices. Excluding the energy sector results in a 3.7% decline in earnings for the remainder of the S&P 500. [3] Furthermore, since the monetary tightening has occurred so quickly, financial conditions were not nearly as tight for most of the second quarter as they are now. The effects of Fed policy decisions have only just begun to hit corporate balance sheets and the repercussions are likely to worsen assuming the Fed continues to hike rates and reduce the size of its balance sheet. We are maintaining our defensive positioning by holding cash across most of our model portfolios and are carefully watching developments in key areas of risk: the housing market, China’s property market and banking system, overleverage in CMBS (particularly offices) and the evolving geopolitical situations in Ukraine and, potentially, Taiwan. The Inflation Reduction Act (IRA): A $370 Billion Climate Goodie Bag President Biden signed a sweeping $370 Billion dollar Inflation Protection Bill into law this past Tuesday making it the biggest thing Congress has done on climate – ever. The bill has a lot of the most important components of the Build Back Better legislation that stalled in the Senate, including long-term tax credits for clean electricity, clean fuels, carbon capture and sequestration, clean hydrogen, and direct air capture. It also includes incentives for clean energy technology manufacturing, authorization for major new loan guarantees, and a scaled-back tax credit for new electric and fuel cell vehicles. On its face, the passage of the IRA puts the US on track to meet its climate commitments, but it doesn’t get us all the way there. When President Biden reentered the US into the Paris Agreement, he committed to net GHG reductions of 50-52% compared to 2005 levels by 2030. The Rhodium Group, an economic policy think tank, increased its estimate for a 24-35% cut in US net GHG emissions based on current policies to a likelier 31-44% reduction following the passage of the bill, an improvement that still falls short of our Paris target. There is still a need for innovation and investment beyond the scope of the IRA. Current policy and markets simply won’t get us to the level of decarbonization needed to avoid the worst impacts of climate change. [4] Reasons for Optimism [5] This year, projections of US economic growth have lowered from a 2.1-2.2% to 1.8-1.9% average annual growth rate through to 2035. The compounding effect of this lower growth rate is significant. A lower GDP in the model means less industrial output and less demand for fuels and feedstocks. This also flows through to less energy used in freight transportation, as well as in less disposable income in consumers’ pockets. All of these flows have knock-on effects, reducing overall greenhouse gas emissions. Upwards revision of expected fossil fuel prices driven by the war in Ukraine. More expensive oil and gas drives further adoption of cheaper renewables, which decreases emissions. Our lowest emission scenario (35% reduction by 2035) assumes a combination of very cheap wind and solar and relatively expensive oil and gas prices. Continued improvements in cost and performance of cleantech absolutely play a role in decreasing emissions intensity. In the power sector, technological improvement and learning have enabled wind and solar to reduce both their upfront and expense costs, making them more cost competitive against oil and gas. The transportation industry is following similar trends. Using EV battery prices from Bloomberg New Energy Finance, our most optimistic scenario shows that EVs could make up as much as 62% of light-duty vehicle (LDV) sales by 2035. In that low emissions scenario, gasoline is getting more expensive while EV battery prices are declining. What role does nuclear, green hydrogen, carbon capture play in these projections? While these emerging technologies are on the verge of commercialization, largely from the investments related to last year’s Infrastructure Bill, we’re not seeing a lot of deployment under the current policy. They play a minor role in our current modeling but are important investments nonetheless to determine what additional policy could do through 2035 and beyond to achieve decarbonization goals. Concerns with IRA [6] At first glance, this looks like a relatively balanced approach to using taxpayer money in the fight against climate change and reduce national GHG emissions. This bill was different than previous “green” bills in that there is a clear focus on building up our domestic manufacturing in the clean energy and electric vehicle space, and not just focusing on bolstering the demand side of the equation. We haven’t seen experts comment much on whether these incentives will move the needle in developing the domestic supply side of the clean energy industries or how long it will take to see meaningful improvements. China dominates the solar, wind, and electric vehicle battery space today. Some demand-side components of this bill in the near-term are going to strengthen Chinese industries, especially solar. Also, it appears that the staff members writing the bill didn’t necessarily have a grasp on the realities of the clean energy space. As an example, criticism is currently floating around about how the $7,500 credit for an EV requires a battery that doesn’t exist. The bill requires 40% of minerals in the battery to be sourced from North American or free-trade partners, but the current control that China has within the battery space (including ownership of the cobalt mining within the Democratic Republic of Congo) means no one will be able to take advantage of the credit. Here is a breakdown by NGO trackers on what the bill is actually funding, which will be updated in real time as we learn more about the legislation. Below is a brief static summary: Energy $30B in production tax credits for solar, wind, batteries, minerals $10B investment tax credit for clean tech manufacturing $27B GHG reduction fund $500M in the Defense Production Act for heat pumps $900/ ton methane fee Transportation $7,500 tax credit for new EVs $20B to build new clean vehicle manufacturing facilities $3B to electrify the United States Postal Service delivery fleet $3B for zero-emission ports $1B for zero-emission trucks and buses Built Environment $9B in consumer home energy rebate programs 10 years of consumer residential energy tax credits for heat pumps, rooftop solar, HVAC, and water heaters $1B energy efficiency grant program Carbon Extension and modification of the Carbon Capture tax credit Industry $5.8B to reduce emissions from chemical, steel and cement plants $5.7B of federal procurement for low-carbon material investments Ag & Land Use $20B to support climate-smart ag practices $5B to support reforestation, conservation, wildfire prevention $2.6B in grants for coastal habitats Enviro Justice $5B EPA funding to reduce climate pollution $6B to invest in community led enviro health projects Source: ZERO LAB, Princeton University, August 2022 [7] Conclusion Perfection cannot be the enemy of progress and although the IRA bill doesn’t get us to our decarbonization goals on its own, it represents our largest legislative victory to date and substantial progress. To close the gap the rest of the way, the US will likely need to align with some other policies already embraced by Europe, such as a carbon tax system and phasing out an eventual ban on future production of internal combustion engines. Current estimates are that this $370 Billion dollar bill will drive ~$3.5T in cumulative capital investment into new and old American supply infrastructure over the next decade. Highlighting for investors, start-ups, and companies some of the best investment opportunities of the next 10 years.

Taking the next step just became easier. When it comes to sustainable investing and creating impact, meet our newest innovation, TheIMPACT and The Great Repricing Hub. “The Hub,” for short, is a new site designed to elevate our subscribers engagement journey on the topic of sustainable investing and to build a better future together. The concept is simple. Watch content. Learn more about topics. Click into action! Navigating to The Hub is easy. Simply click the “Learn More & Act” button on any video that airs on TheIMPACT or The Great Repricing shows.