Is Stock Market Decline Done for Now?

A decline of -10% or more from the most recent peak is considered a “correction”.

Some Wall Street bulls are noting a decline in bond yields yesterday that they believe indicates the recent selloff may have played itself out. Bears, however, suspect the yield dip is just a blip on the radar with many still predicting 10-year yields will top +2% by the end of the first quarter and perhaps ultimately push towards 2.3% to 2.55 before topping out.

“Bubbles” driven by the Fed’s easy-money policies

The pullback in stock prices has created a more “risk off” mentality that has also bled into other alternative assets like cryptocurrencies that bears believe are massive “bubbles” driven by the Fed’s easy-money policies.

New and ongoing issues that threaten to contribute or extend existing inflationary pressures in 2022 have led to some dramatic recalculations of the Federal Reserve’s upcoming tightening cycle, in turn increasing the downward pressure on more rate-sensitive stocks.

As recently as early-December, most Wall Street insiders were anticipating the Fed would increase rates four times, in increments of 25-basis points. Now, expectations are growing for two hikes of 50-basis points, along with perhaps two hikes of 25-basis points. There has also been some speculation that the initial rate hike, which is expected in March, could be one of the larger 50-basis point moves, an outcome that some worry could send shockwaves through global financial markets.

Another dramatic shift is the expectation that the Fed will begin reducing its nearly $9 trillion balance sheet this year, which Wall Street at one point expected to begin no sooner than 2024.

The Fed meets next week on January 25-26. Ahead of that, investors are anxious to see policy updates from other global central banks, starting today with Bank of Canada, then the European Central Bank on Friday. Bank of Canada is widely expected to hike its benchmark interest rate amid unrelenting inflation similar to what we’ve witnessed in the U.S.

The ECB, on the other hand, is expected to maintain its current policy, with most officials still betting inflation will recede with the pandemic. Unfortunately, current signs point to even higher global energy prices ahead, which will ultimately translate to higher gasoline prices for consumers, as well as higher operating costs for businesses that will also likely get passed along.

Oil prices rose again yesterday after a pipeline explosion that will temporarily halt some exports added to existing disruptions and global supply concerns.

The latest data shows that global oil inventories have continued to shrink into 2022 as several OPEC+ members struggle to meet their production increases.

Data to watch

Today, economic data includes the Philadelphia Fed Index and Existing Home Sales for December. It’s worth noting that December Housing Starts and Permits data released yesterday both came in far above trade expectations.

November numbers were also revised upward. Earnings releases include American Airlines, Baker Hughes, CSX, Netflix, PPG, The Travelers Company, and Union Pacific. Next week we’ll start getting into the big tech giants and other corporate bellwethers like Apple, Boeing, Caterpillar, IBM, McDonalds, Microsoft, Tesla, and Verizon.

Some bullish insiders suspect good results from just a few of America’s leading companies could lure investors back in, possibly setting the stage for a massive rebound, especially if the Fed delivers a less hawkish than expected policy update next week.

On the flip side, many are worried that if Apple, Microsoft, or Tesla were to roll over it could trigger a sizable selloff. I think we are clearly at an inflection point with the Fed changing direction and over 40% of our fund and money managers being too young to ever trade or invest in both a rising rate and rising inflation environment. It will be interesting to see how some chose to navigate these waters.