Brad Houle, CFA
Principal
Fixed Income Research and Portfolio Management
In our Outlook 2022 publication titled "Extraordinary to Ordinary" we highlighted that more volatility would be a feature of 2022. Volatility was extraordinarily high in 2020 during the zenith of the COVID-19 crisis and well below average during the robust economic recovery of 2021. This year we expect an environment of more normal volatility. One way to quantify volatility is the number of days where there was a 2% move in the market. In 2020, there were 44 days of greater than 2% moves in the market but only 6 days in 2021. On average, there are 20 days of greater than 2% moves in the stock market.
For the year-to-date, the S&P 500 is down more than 7% and on an intraday basis the S&P 500 was down more than 11%. As mentioned in our memo to clients this week, we view the main factors behind the volatility are (1) inflation concerns and worries about how quickly — and aggressively — the Federal Reserve will raise interest rates; (2) nervousness about the strength of fourth quarter corporate earnings and (3) heightened geopolitical risks associated with the escalating Russia-Ukraine tensions.
This week, we got some clarity on the Federal Reserve and interest rates. On Wednesday, as expected, the Fed decided to keep interest rates unchanged. In the press conference that followed the announcement, Fed Chair Jerome Powell delivered a message that has been consistent from the Fed with three key points: (1) the Fed is planning on increasing interest rates "soon," which is expected to be at the March Fed meeting; (2) Powell was noncommittal about the pace of rate increases subject to economic data and (3) the Fed is prepared to begin withdrawing the extraordinary monetary policy in the form of bond purchases that had injected liquidity into the financial system. The markets interpreted the Fed Chair's comments to be more hawkish than expected pricing in a higher probability for greater rate increases this year. Our view is that the message was consistent with expectations and the market is probably overestimating how aggressive the Fed will be this year due to inflation moderating in the second half of 2022.
As we progress through the fourth quarter earnings season, fewer companies have beat expectations than have in recent quarters. This trend has been particularly notable in the technology sector and has contributed to recent volatility. In contrast to weaker than expected earnings, the fourth quarter GDP was better than expected at 6.9% above the expected annualized rate. Over the fourth quarter some businesses built up inventory which makes the result look better than expected. Overall, though, it was still a robust quarter. The first quarter GDP will probably be weaker due to the impact of the Omicron variant. However, we believe we are still early in the economic cycle and expect the full year GDP growth to be around 3%- 4% which is a good year of growth, not an extraordinary one.
Takeaways for the Week
The volatility we have been experiencing in the market is normal and that we are still early in the economic cycle
The economy and labor market have recovered to the point where the Fed can begin to increase interest rates this year and withdraw extraordinary monetary policy