My goal is to give you a brief quarterly market commentary for 1Q22 and provide some insight into what I’ll be watching and following over the next few months.
It goes without saying that the first few months of 2022 have been volatile and concerning. The vast majority of people all over the world have expressed outrage with regard to the Russian invasion into Ukraine and rightfully so. It is a glaring reminder that, despite how far our civilization has come, there are still madmen that are determined to set us back.
Taking a quick look at broad markets year-to-date, the S&P 500 finished the 1st quarter only down about -5% after being off close to -13% at the beginning of March. To give some perspective, this is the first negative quarter for the S&P 500 since the start of the pandemic. The Bloomberg Barclays U.S. Aggregate Bond Index, a broad measure of bond performance, was down almost -6% as a result of interest rates rising during the quarter.
A topic that has also garnered significant attention lately has been inflation. The most recent Consumer Price Index (CPI) figures from the Bureau of Labor Statistics (BLS) for February were a 7.9% year-over-year increase in the prices people pay for everything from gasoline and medical care to food and transportation. Not surprisingly, the rise in prices at the pump contributed to almost a third of that increase. Uncertainty about supply and demand stemming from the Ukraine/Russian conflict is the primary culprit.
Federal Funds Rate
The strong employment situation in the U.S. along with stubborn inflation have caused the Federal Reserve to take action and raise the Federal Funds rate from 0% to 0.25% at their most recent meeting. This is the first time the Federal Funds rate has gone above 0% since the start of the pandemic.
Additionally, the Fed has indicated a likelihood to raise rates 6 additional times in 2022. Making it more costly to borrow should have the effect of cooling an overheating economy and bringing inflation down to a more reasonable level. The impact to markets of the Fed indicating that they would raise rates has caused bond prices to fall in the 1st quarter of 2022. As a reminder, bond prices fall when interest rates go up. It will be interesting to see if the Fed can engineer a “soft landing” without sending the U.S. economy into a recession.
When looking at the health of individual companies though, we are seeing strength in their ability to continue to grow earnings. For the 4th quarter of 2021, 75% of companies beat their own expectations with regard to earnings and 69% beat estimates of revenue growth. Bear in mind that this occurred while we were battling Omicron, high inflation, and a fragmented supply chain. Wall Street analysts estimate that corporate earnings will continue to be healthy for the rest of the year at an 8% to 9% growth rate. I believe the resilience of U.S. corporations has been somewhat overlooked in the start to 2022 and should be supportive of stock prices moving forward.
Interestingly, returns for stocks in past periods of inflation have been positive more often than not. This is likely due to the fact that companies are able to pass along higher costs to the consumer in the form of higher prices. Fortunately, the average U.S. consumer is in a strong place at the moment with very low unemployment, retail spending has continued to grow quarter over quarter, and wages have been increasing above their long-term averages. Add to that the 7.0% annualized GDP growth from the 4th quarter and you have the underpinnings of a strong economy. I have a feeling that the implications would be much different if the U.S. consumer and economy weren’t in such a strong position.
Looking forward, there are many events happening here at home and abroad that are causing a great deal of uncertainty. A peaceful resolution in Ukraine would be ideal but doesn’t seem likely at this stage. Getting some clarity on its eventual conclusion and not pulling more players into the fight would be a relative positive for markets. Oil and commodity markets should expect continued volatility the longer the dispute goes on.
The Federal Reserve and the success of its mission to combat inflation will only be measured one data point at a time. The Chairman of the Federal Reserve, Jerome Powell, has been clear in his communication that he and the other Fed governors are prepared to take action to fight inflation and that a hike in the Fed Funds Rate of an additional 50 basis point (0.5%) at their next meeting is within the realm of possibility. We will get the next CPI reading on April 12th for the month of March, and it will be the last reading before the Fed convenes again at the end of April.
Earnings announcements for the 1st quarter of ‘22 will begin in a little over two weeks and I will be looking to see if the positive momentum from the last quarter has been sustained as well as listening to the communication from executives on the impact inflation and supply chains have had on financial performance. Any weakness here could put further pressure on stock prices.
Lastly, I’d like to finish on a big picture note. As I’ve said before and will say again, markets find a way to climb a wall of worry – and there’s a lot to be worried about out there at the moment. Our investment approach at SBC has always been about taking the guesswork out of trying to correctly predict short-run events and their outcomes by sticking to a long-term, rules-based philosophy. By taking this stance, it allows us and our clients to take advantage of the market’s ability to climb that wall over time.
Be sure to reach out to one of our advisors with any questions you may have, and we’ll be happy to get them answered for you.
As Always, Be Well!