2022 1st Quarter Volatility
US financial markets are closed today in observance of the MLK holiday. Overseas markets are broadly higher today with Japan up +.7% and Europe up +.5% while the Hang Seng is down -.7%. If you believe the numbers (we remain suspect), China’s economy beat expectations in the third and fourth quarters of 2021. For 2021, that works out to an 8.1% increase, the fastest since 2011.
Last week, domestic equity markets continued with their whipsawing ways amid a heavy wave of hawkish talk from the Federal Reserve. The S&P 500 dipped 0.3%, with strength in energy offset by declines across most other groups. International market that are heavily weighted to commodities such as Canada gained on the week due to a rebound in oil prices.
Despite daily Fed talk, the broad market for equities has held up very well considering the drumbeat of earlier and more aggressive monetary tightening talk. Looking at performance over the past month gives a pretty good snapshot of relative performance early in a tightening cycle. Old-line, reliable and cheap, “dirty energy” (sarcasm) has led the markets, with double-digit gains over the past month, while materials have also outperformed. Up until Friday, banks rallied and outperformed the broad indices in U.S.
At the other end of the spectrum, technology has lagged, with the sector down 2% over the past month in the S&P 500, and the Nasdaq underperforming the other major North American indices. The concern is that tighter monetary policy will weigh on those Technology valuations. Rate-sensitive sectors such as REITs and utilities have held in there for two major reasons; longer-term interest rates, while backing up, have not skyrocketed higher; and many names in these sectors have solid pricing and dividend-raising power in an inflationary environment.
The financial markets have quickly moved to the Federal Reserve beginning its short-term rate increases at the March meeting, almost a year earlier than where expectation stood at the beginning of the 4th quarter of 2021.
As we have discussed since early November of 2021, the investment team is expecting a marked uptick in realized volatility for the first half of 2022. History has shown changes in the balance sheet trajectory (flatter or declining) have coincided with at a minimum stalled stock prices. Periods from 2011-12, 2015-16, and 2018 were all periods with corrective or sloppy and choppy trading when the Fed was slowing of reducing its balance sheet followed by a resumption of the bull market as the economy moved forward, company revenue and earnings prevailed, and investor worries were proven incorrect.
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