|By Tim Courtney, Chief Investment Officer|
During the second half of 2020, we experienced a unique confluence of events: a quick recovery from a lockdown recession, stimulative fiscal policies and government spending, central bank aggressive asset purchases, a ballooning of money supply and record-low interest rates. Even though employment numbers remained poor and production levels hadn’t yet recovered, households took advantage of liquidity from savings and stimulus by refinancing mortgages and taking out low-cost debt on cars, stocks and more.1
In early 2021 it was clear the economy, markets and labor supply were in recovery but there was little change to very accommodative policies. Though it seemed to policymakers that this was the right call at the time, inflation levels we haven’t seen in decades have changed the calculations and the politics. Now the Federal Reserve is raising rates and slowly ending asset purchases.
As we’ve previously mentioned, interest rates act like gravity to the economy. When rates are low or approaching zero as they were in the 3rd quarter of 2020, consumers and businesses (and governments) are more lively and debt effects are light. The prices of many assets such as real estate, bonds and equities, which are at least partially determined by interest rates, become untethered and begin floating or, in some cases, soaring higher. And while the “zero-gravity” environment can be fun for a while, there are consequences.
The price of commodities, food and travel moved higher, joining real estate and stock prices.2 Supply chains are somewhat to blame for rising consumer prices but still, the Fed has made the decision to re-introduce some gravity, initially by 0.25%, with more increases expected throughout 2022.3
The market is feeling the effects. Volatility has increased and we have now experienced a market correction for the first time in two years.4 Ultimately, we believe this is normal and a healthy reaction to the fast growth we’ve experienced since March of 2020. Interest rates, which should have been moving higher earlier, have jumped in recent weeks.
One measure we are watching is a potential yield-curve inversion, which happens when short-term interest rates are higher than their long-term counterparts. Historically in the U.S., an inversion signals an upcoming recession.5 However, it can flash a false positive as we saw in 2018 and its use as a signal in international markets has been unreliable.6 We’ll be watching this as one indicator among many others.7
Overall, we think the market has been responding relatively well to interest rate hikes. While the odds of a recession have risen with inflation and rates higher amid a war, we believe it still remains very likely that 2022 will continue the positive economic and earnings growth we saw in 2021 but at lower levels. If you have any questions, please contact your Exencial advisor.
1. Experian (4/6/21) — Average U.S. consumer debt reaches new record in 2020
2. Associated Press (2/10/22) — US inflation highest in 40 years, with no letup in sight
3. The Wall Street Journal (3/17/22) — Fed raises interest rates for first time since 2018
4. MarketWatch (2/23/22) — S&P 500 logs first correction in 2 years as Russia-Ukraine conflict escalates. Here’s what history says happens next to U.S. stock-market benchmark
5. Investopedia (3/28/22) — Inverted yield curve
6. Forbes (12/2/18) — The yield curve just inverted–sort of–and that is a sell signal for stocks
7. CNBC (3/31/22) — 2-year Treasury yield tops 10-year rate, a ‘yield curve’ inversion that could signal a recession
The S&P 500® is widely regarded as the best single gauge of large-cap U.S. equities. There is over USD 9.9 trillion indexed or benchmarked to the index, with indexed assets comprising approximately USD 3.4 trillion of this total. The index includes 500 leading companies and covers approximately 80% of available market capitalization.
PAST PERFORMANCE IS NOT AN INDICATION OF FUTURE RETURNS. Information and opinions provided herein reflect the views of the author as of the publication date of this article. Such views and opinions are subject to change at any point and without notice. Some of the information provided herein was obtained from third-party sources believed to be reliable but such information is not guaranteed to be accurate. In addition, the links provided within are for convenience only and the provision of the links does not imply any sponsorship, endorsement, or approval of any of the content. We do not guarantee the content or its accuracy and completeness. The content is being provided for informational purposes only, and nothing within is, or is intended to constitute, investment, tax, or legal advice or a recommendation to buy or sell any types of securities or investments. The author has not taken into account the investment objectives, financial situation, or particular needs of any individual investor. Any forward-looking statements or forecasts are based on assumptions only, and actual results are expected to vary from any such statements or forecasts. No reliance should be placed on any such statements or forecasts when making any investment decision. Any assumptions and projections displayed are estimates, hypothetical in nature, and meant to serve solely as a guideline. No investment decision should be made based solely on any information provided herein and the author is not responsible for the consequences of any decisions or actions taken as a result of information provided in this book. There is a risk of loss from an investment in securities, including the risk of total loss of principal, which an investor will need to be prepared to bear. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will be profitable or suitable for a particular investor’s financial situation or risk tolerance. Exencial Wealth Advisors, LLC (“EWA”) is an investment adviser registered with the Securities & Exchange Commission (SEC). However, such registration does not imply a certain level of skill or training and no inference to the contrary should be made. EWA may only transact business in those states in which it is registered, notice filed, or qualifies for an exemption or exclusion from registration or notice filing requirements. Complete information about our services and fees is contained in our Form ADV Part 2A (Disclosure Brochure), a copy of which can be obtained at www.adviserinfo.sec.gov or by calling us at 888-478-1971