Optimism Quickly Turns to Pessimism
• Equity markets sell-off a day after a strong rally.
• Investors were quickly reminded of the risks that persist.
• Diversification is important in times of volatility.
After the Fed meeting on Wednesday, stock markets rallied for their biggest one-day gain since 2020. The
S&P 500 gained nearly 3%, but just a day later, investors reconsidered this optimism and markets lost more
than 3% on Thursday with the S&P 500 losing more than 3.5%. Technology stocks were hit the hardest
with the tech-heavy Nasdaq Composite falling nearly 5%, the biggest decline since June 2020. High-growth
stocks, like technology stocks, sold off more because bond yields also rose. Bond yields move inversely to
bond prices, so bonds were not a good hedge. The Bloomberg Aggregate Bond Index lost around 1% for
the day. Now, both the S&P 500 and Bloomberg Aggregate Bond Index are down over 10% in 2022.
Wednesday’s rally was explained by investors repricing a less aggressive Federal Reserve. The Fed said
it was not actively considering raising rates by 0.75% in future meetings and appeared to be taking a more
conservative approach to normalizing monetary policy relative to market expectations. However, as we
stated in this morning’s commentary, the risks around inflation did not change. Although the Fed seems to
be erring on the side of caution and inflation pressures seem to be easing a bit, a lot of the factors pushing
inflation higher remain.
Investors received a reminder of these risks this morning when data came out portraying more inflation and
a weaker economy. Labor costs surged in the first quarter, unemployment claims rose and productivity was
weaker than expected. We are watching the claims data carefully, but the other two data points are older,
so we are not putting as much weight into them. We remain optimistic that inflation is easing, and supply
chains are improving.
The other reason investors may be reconsidering their optimism is we saw some disappointing earnings
reports from e-commerce and companies that benefited from consumers staying at home. Since these
companies tend to have high valuations (their price per share is high relative to their earnings per share),
investors are rebalancing their portfolios away from these companies. The shift makes sense as these high
growth companies saw future growth downgraded with yields rising (future earnings are discounted by
prevailing interest rates). The good news is that traditional brick-and-mortar consumer companies are
seeing strong growth/earnings and can pass on costs to consumers. These companies have fared better
in 2022 and dropped less in this selloff.
We remain cautiously optimistic as inflation will begin slowing, supply chains are improving, valuations are
more attractive, the yield curve is steepening, and we believe that the Fed will prove less hawkish than the
markets anticipate. At the same time, many inflationary factors persist. As such, we expect volatility to
remain as the Fed and investors gauge this inflation data and where the economy is headed. One should
not shun bonds in their portfolios either. Being shorter duration can mitigate some of the risk of rising bond
yields and there is now more yield offered in bonds. Markets are forward looking and much of the rise in
interest rates and bond yields may already be factored into their prices.
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