Still Piloting Through
Publish Date: February 13, 2022
Since the publication of our 2022 Outlook: Piloting Through, the financial markets, especially those of the US, have become much more volatile. US equities–as measured by the S&P 500– have declined by 7.2% on a closing basis since the end of December 2021, and by 12.4% based on intraday pricing from their peak on January 4th to their recent low on January 24th. Volatility–as measured by the CBOE VIX Index–increased from 16% to an intraday peak of 39% on January 24th. The interest rate on the 10-year Treasury bond increased by about 50 basis points year-to-date, from 1.5% to just below 2% (with 2% being the mid-point of our year-end 2022 target) as of the close on Friday, February 11th.
Within the S&P 500, the energy sector has gained 27.1%, while real estate and communication services (includes Facebook, Netflix, and Alphabet) were notable underperformers, declining 12.3% and 12.2%, respectively. Consumer discretionary (including Amazon, and Tesla) and information technology (including Apple, Microsoft, and Nvidia) have also underperformed, declining 11.6% and 11.0%, respectively.
Non-US markets were much less volatile. Non-US developed equity markets–as measured by MSCI EAFE (Europe, Australasia, Far East)–have declined only 2.1% year-to-date, while emerging equity markets–as measured by MSCI EM–have increased by 0.6%, driven by a nearly 10% return in Brazilian equities. Eurozone and UK bonds have slightly underperformed similar-maturity US bonds.
Inevitably, clients are asking whether these price declines foreshadow a bear market in equities. In such a scenario, higher and more persistent inflation leads the Federal Reserve to aggressively tighten monetary policy enough to cause a recession and a corresponding decline in earnings. While such a scenario is possible, we do not think it is likely this year. Our base case posited in our 2022 Outlook is that the US economy will pilot through the icebergs of inflation and Federal Reserve policy rate hikes. What we are most uncertain about are the risks emanating from the Russia-Ukraine crisis.
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