In this week’s Monday Market Insights, we discuss global geopolitical tensions, moderating inflation expectations, and an update on the fourth quarter earnings season. Our Chart of the Week highlights how market expectations are not the best predictor of future Fed policy. Finally, we discuss how this may be the final chapter in the COVID-19 reopening.
Top Weekly Themes
- On Again Off Again Geopolitics – Financial markets saw more volatility last week as news surrounding the potential invasion of Ukraine by Russia cycled on and off. The U.S. stock market initially sold-off on Monday after the weekend news of an imminent invasion of Ukraine but recovered Tuesday following Moscow’s announcement that it was pulling troops back. However, on Wednesday, markets opened lower as NATO indicated the pull-back was a head-fake and Russia was continuing to build its forces along the border. Adding to the confusion, Ukraine initially vowed to never join NATO, only for Ukraine’s leader Zelensky to come out later and proclaim that joining NATO would ensure the country’s security. The bottom line is that we believe investors should spend little time trying to make portfolio changes based on this type of geopolitical uncertainty. Events such as this typically cause more “headline risk” than “bottom line” risk for companies, therefore volatility is often fleeting. Investors that have broadly diversified asset allocations will be best served to fight any impulse to make changes based on the current situation in Ukraine.
- Inflation Expectations Moderating – Last week the Federal Reserve Bank of New York released its January 2022 Survey of Consumer Expectations which indicated a decline in short- and medium-term inflation expectations. One-year-ahead inflation expectations fell to 5.8% from 6.0% in January, the first sequential monthly decline since October 2020. Three-year-ahead inflation expectations also declined to 3.5% from 4.0% in December. The improving trend of consumer inflation expectations provides support that the worst inflation fears are behind us, which should allow the Fed to raise rates at a more tempered pace.
- Fourth Quarter Earnings – As of last Monday, 70% of stocks in the S&P 500 had reported earnings for the fourth quarter. Out of this cohort, 78% of companies beat earnings per share (EPS) expectations. However, the degree to which those companies surpassed estimates fell with a surprise ratio1 of 5.3%, the lowest since the pandemic began, but still above the long-term average of 4.1%. The downward trending surprise ratio is an indication of the operating environment becoming more stable and analyst expectations being less dire. Interestingly, the Technology sector had the greatest percentage of positive earnings surprises, yet these stocks have underperformed the broad market on a year-to-date basis, signaling a change in near-term expectations for future earnings growth and more scrutiny on current valuations.
|Russell 1000 Value||(1.9)||(1.9)||15.9||12.97||9.95||1.87|
|Russell 1000 Growth||(2.8)||(10.0)||9.2||24.52||21.07||0.70|
|MSCI EM (Emerging Markets)||0.4||1.1||(11.6)||9.30||8.47||2.47*|
|Fixed Income||Week||YTD||1-Year||3-Year||5-Year||Div Yield|
|Bloomberg Barclays US Aggregate||(1.0)||(4.2)||(4.1)||2.94||2.63||2.46|
|Bloomberg Barclays US High Yield – Corporate||(1.5)||(4.3)||(0.6)||5.38||4.90||5.73|
|Bloomberg Barclays Municipal Bond||(1.1)||(3.6)||(3.0)||3.11||3.30||1.94|
|Bloomberg Barclays Global Aggregate x US (Country)||(0.7)||(2.9)||(7.4)||1.68||2.35||1.46|
|Crude Oil WTI (NYM $/bbl) Continuous||4.5||24.5||56.0||19.0||11.9||93.7|
|Natural Gas (NYM $/mmbtu) Continuous||17.7||32.6||50.8||21.6||10.6||4.7|
|Gold NYMEX Near Term ($/ozt)||1.9||2.3||4.1||12.4||8.6||1,870.2|
|Copper Cash Official LME ($/mt)||1.7||3.6||19.0||17.5||10.8||10,045.5|
|Currencies||1 Week Ago||YTD||1-Year Ago||3-Years Ago||5-Years Ago||Current Level|
|U.S. Dollar per Euro||1.14||1.14||1.21||1.13||1.07||1.14|
|Japanese Yen per U.S. Dollar||115.47||115.16||105.72||110.56||113.30||115.43|
|U.S. Dollar per British Pounds||1.35||1.35||1.39||1.28||1.25||1.36|
Chart of the Week
Market Expectations are a Less than Perfect Predictor
- As of early last week, the market expected the Fed to hike rates seven times in 2022 and twice in 2023. However, the market’s prior record of predicting rate increases has been less than perfect and current expectations are likely to miss the mark.
- The chart above depicts forward expectations of Fed rate hikes implied by the financial markets compared to the actual path of rates. A general conclusion can be drawn from the data that the market is a poor predictor of Fed policy and this historical context should be considered when assessing current expectations.
- In general, both the market and the Fed have tended to overestimate the amount of future interest rate hikes. We believe this supports our current expectation that the Federal Reserve will hike fewer times than currently expected, enabling a “soft landing” of slow rate increases without causing a recession.
Commentary – The Great Reopening: Rebooted
For almost two years, the economy “reopening narrative” has had fits and starts across the United States and abroad. Policies to curb the spread of the virus have varied considerably across regions around the world. The incongruity of mitigation measures has been perplexing, to say the least. However, this reopening “reboot” may be the last as we learn to live with COVID-19, which is evidenced by numerous countries lifting mask mandates, despite it still being winter in the northern hemisphere. If the “living with COVID” mantra becomes the predominant narrative, it could not be coming at a better time in terms of relieving inflationary pressures. Fewer restrictions should lead to greater labor force participation, which will likely alleviate supply chain issues and worker shortages – factors that have led to rising prices. We continue to believe that consumers will spend more on services versus goods as COVID-19 restrictions are lifted. All these factors align well with our expectations for inflation to moderate in the year ahead.