Summer 2022
The Wall Street Journal summed up the first six months of the year with a simple but telling headline: S&P 500 Posts Worst First Half of Year Since 1970. Morningstar said the Dow’s performance was the worst since 1962. In part, it’s a timing issue since both indexes hit their respective peaks in the first week of 2022. Timing issues aside, stocks have tumbled since hitting all-time highs, and the S&P 500 Index shed 23.6% from its January 3 peak to its June 16 trough, which officially lands us in a bear market. (The stock market is considered to be in a bear market when the broad-based index falls 20% from a prior peak.)
Much of the selloff that occurred in the markets came in the 2nd Quarter. The markets were only 3-5% from their all-time highs at the beginning of the quarter. One of the factors that propelled the markets lower was the belief that the Federal Reserve was embarking on the most stringent tightening cycle since the mid-1980s. The Federal Reserve Board began raising rates at the end of the 1st Quarter. Thru the end of July, it had raised the Discount Rate 4 times, including back-to-back 75bps raises.
The Fixed Income market was not immune to the losses suffered by the equity markets. The Bloomberg US Aggregate Bond index (a proxy for the entire US Bond market) was down over 10% in the 1st half of 2022. This is highly unusual, normally the Fixed Income portion of a portfolio will buffer the losses suffered by the Equity portion. Since interest rates were so low historically, the fear of inflation and the Federal Reserve raising rates cause bond prices to plummet.
Today, Fed Chief Jerome Powell continues to talk about the importance of getting inflation under control. And the Fed seems to be in no mood to veer from its inflation-fighting course, even if it means a recession.
But a recession is not a foregone conclusion.
Although economic growth has slowed, consumer confidence is down, and a decline in Q2 GDP, job growth has been robust, layoffs are low (though they have ticked higher), and consumers are splurging on travel and other services that were out of reach in the pandemic. Furthermore, Moody’s Analytics argues that plenty of stimulus cash remains in bank accounts, which could support consumer spending, and typical signs of rising loan delinquencies have yet to materialize (St. Louis Federal Reserve).
Since the low in the markets in June, the rally has reclaimed about half of its losses. The rally started due to numerous reasons. Some were: an extreme bearish sentiment, portfolio rebalancing, inflation being unchanged month over month in July and hopes that the Fed will ease up on the tightening throttle. I think, however, that investors are not paying attention to what is really happening. Although the latest inflation reading was unchanged month over month, it is still extremely elevated compared to last year. While gasoline and oil prices have receded from their highs, natural gas prices are spiking. The global supply dynamics for the energy complex, I think, are much more favorable to higher not lower prices. One of the biggest components of CPI (used to measure inflation) is rents and housing costs. Those are not dropping.
I believe the Federal Reserve will continue to raise rates, although not as aggressively as this summer. They will not pivot (begin to lower rates) until they sure that inflation has rolled over and is declining. Ther goal is to get annual inflation back down to around 2%. Remember, they have a dual mandate. Control inflation and keep employment high. As long as the Unemployment Rate remains low, I believe the Fed will remained focused on containing the inflation rate.
All of this should continue to keep pressure on the equity markets. Combined with a strong dollar, which hurts multinational profits that are repatriated, slowing economic growth both here in the US and especially overseas, rising energy prices going into the winter heating season and the mid-term elections, I think it will be challenging for the equity markets to stage a grand rally. I believe that markets will be technically range bound at slightly lower levels until the Federal Reserve indicates that the tightening cycle is ending.
Chairman Powell will speak at the Jackson Hole gathering this week. This is often a forum used by the Fed to give an indication of their near-term intentions. This will give him an opportunity to guide the market expectations thru yearend. I think he will warn of further rate rises and a commitment of the Fed to tame inflation to more acceptable levels. I also think he will reaffirm the belief that the Fed will be able to accomplish this with a soft landing, not a severe recession.
The opinions expressed herein are those of Riverbend Planning Group. The data and opinions are furnished for informational purposes only and should not be considered a solicitation for an investment decision. Although it is derived from sources believed to be accurate, Riverbend Planning Group makes no guarantee to the accuracy of the information
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