US equity markets were mixed this week, with large cap equity indices finishing negative while small cap finished positive. Consumer sentiment plunged to the lowest levels in more than a decade, with degradation of personal finances as a result of inflation being the largest driver of the negativity. The continuing struggle against the damaging impact of inflation has yet to bear any fruit in the eyes of consumers as expectations are for inflation to continue to rise per the new sentiment report. Time will tell whether the Fed is doing too little too late on inflation, but their willingness to act late is better than continuing to invoke that inflation is “transitory.” Overall, the economy is still recovering well from pandemic lockdowns. The biggest threat to the economy remains inflation, and the Fed now appears to be taking the threat more seriously.
Overseas, developed markets underperformed emerging markets, with both indices returning positive performance. European indices were positive, while Japanese markets returned positive performance as well. Improving prospects against the pandemic as well as improved prospects for economic recovery should continue to help lift markets globally over time, but macroeconomic factors such as inflation and supply shortages continue to pose challenges.
Equity markets were mixed this week as investors continue to assess the state of the global economy. While fears concerning global stability and health appear to be in decline overall, the recent volatility serves as a great reminder of why it is so important to remain committed to a long-term plan and maintain a well-diversified portfolio. When stocks struggle to gain traction, other asset classes such as gold, REITs, and US Treasury bonds can prove to be more stable. Flashy news headlines can make it tempting to make knee-jerk decisions, but sticking to a strategy and maintaining a portfolio consistent with your goals and risk tolerance can lead to smoother returns and a better probability for long-term success.
Chart of the Week
Expectations indicate that investors expect big things from European firms. Forward net margin expectations are at the highest levels since the financial crisis in 2008.
Broad market equity indices finished the week mixed with major large cap indices underperforming small cap. Economic data has been mostly encouraging, but the global recovery still has a long way to go to recover from COVID-19 lockdowns.
S&P sectors were mixed this week. Energy and materials outperformed, returning 1.75% and 1.14% respectively. Technology and communications underperformed, posting -2.91% and -3.86% respectively. Energy holds the lead YTD, posting 26.47%.
Oil rose this week as crude oil inventories shrunk. Energy markets have been highly volatile in the COVID era, but it appears that higher oil prices may be more of the norm given recent market fundamentals. Demand is still down compared to early 2020, but as global economies are continuing to improve, oil consumption is recovering rapidly. On the supply side, operating oil rigs are still well under early 2020 numbers, but trending upwards. In addition to supply and demand, a volatile dollar is likely to have a large impact on commodity prices.
Gold rose this week even as the U.S. dollar strengthened. Gold is a common “safe haven” asset, typically rising during times of market stress. Focus for gold has shifted again to include not just global macroeconomics surrounding COVID-19 damage and recovery efforts, but also inflation and its possible impact on U.S. dollar value.
Yields on 10-year Treasuries rose this week from 1.9085 to 1.9371 while traditional bond indices fell. Treasury yield movements reflect general risk outlook, and tend to track overall investor sentiment. Expected increases in future inflation risk have helped elevate yields since pandemic era lows in rates. Treasury yields will continue to be a focus as analysts watch for signs of changing market conditions.
High-yield bonds fell this week as spreads loosened. High-yield bonds are likely to have stabilized for the short term as the Fed has maintained an accommodative monetary stance and major economic risk factors subside, likely helping stabilize volatility.
A headwind could be on the horizon for fixed income assets, as the Fed has begun tapering its asset purchases which could raise yields. Tapering will undoubtedly have an impact on yields, but the degree of impact is uncertain. In addition to asset tapering, the Fed is currently projecting it will be raising interest rates three times in 2022 starting in March, adding additional interest rate risk to fixed income assets.
Lesson to be Learned
Beware the investment activity that produces applause; the great moves are usually greeted by yawns.”
Brookstone has two simple indicators we share that help you see how the economy is doing (we call this the Recession Probability Index, or RPI), as well as if the US Stock Market is strong (bull) or weak (bear).
In a nutshell, we want the RPI to be low on a scale of 1 to 100. For the US Equity Bull/Bear indicator, we want it to read at least 66.67% bullish. When those two things occur, our research shows market performance is typically stronger, with less volatility.
The Recession Probability Index (RPI) has a current reading of 30.65, forecasting a lower potential for an economic contraction (warning of recession risk). The Bull/Bear indicator is currently 100% bullish, meaning the indicator shows there is a slightly higher than average likelihood of stock market increases in the near term (within the next 18 months).
It can be easy to become distracted from our long-term goals and chase returns when markets are volatile and uncertain. It is because of the allure of these distractions that having a plan and remaining disciplined is mission critical for long term success. Focusing on the long-run can help minimize the negative impact emotions can have on your portfolio and increase your chances for success over time.
The Week Ahead
This week will see updates to economic indicators from multiple sectors of the economy including industrial production, retail sales, and the NAHB housing index.
More to come soon. Stay tuned.