(Another great piece from Tim Holland at Brinker)
Consider the dramatic spike in the Covid case count, driven by the highly transmissible Omicron variant; the elevated level and persistency of inflation; the still “missing” millions of Americans from the labor force; uncertainty around fiscal policy as the Democrats look to revive the Build Back Better Act; the mid-term elections (November will be here before we know it!); an expected step down in earnings and economic growth (relative to 2021); a backing up in bond yields and perhaps, most importantly – outside of the pandemic – the hawkish tilt by the Federal Reserve, as our central bank winds down its securities purchase program and looks to begin raising interest rates and shrinking its balance sheet.
It’s enough to make one’s head spin and make one more than a bit pessimistic on the markets.
Our head might be spinning, but we remain optimistic on stocks in the new year, thinking that still strong economic and corporate profit growth, ample and attractively priced capital for companies and consumers, and still-low rates – among other factors – will help push the market up and to the right.
And for those times in 2022 when our head is really spinning – and we expect that will happen more than once – we will keep in mind what we think is the most important dynamic for the economy and markets this year – that we are very early in the Fed rate hiking cycle, and that if history is any guide, it takes multiple interest rate hikes before monetary policy puts the US economy at risk of recession and US stocks at risk of a bear market.
Economic Barometer
The US economy is still on track for very strong growth in the fourth quarter despite any headwinds from the new COVID-19 variant. The labor market continues to improve, as the unemployment rate has fallen to 4.2% and wages have meaningfully increased.
Monetary policy remains accommodative, however, the more persistent inflation we are experiencing may cause the Fed to accelerate its timeline for tapering, followed by rate increases, in 2022. Fiscal policy is currently supportive, and we avoided a government shutdown for now, but the debt ceiling and President Biden’s Build Back Better plan must be addressed.
With broadbased economic growth, we expect another strong quarter of growth in corporate profits, which is supportive of equities. While the weight of the evidence still leans largely positive, which is aligned with our modest overweight risk positioning across portfolios, the few changes to the barometer in December were negative.
