For the past two years, the stock market has been able to largely ignore the lived reality Americans experienced during the pandemic – the rising coronavirus cases, loss of lives and livelihoods, lockdowns – due to the underlying policies that kept it going .
Investors can now say goodbye to all of this.
In 2022, the Federal Reserve is expected to hike rates to fight inflation, and government programs to stimulate the economy during the pandemic will end. These policy changes will cause investors, companies and consumers to behave differently, and their actions will eventually take some of the air out of the stock market, according to analysts.
“It will be the first time in nearly two years that the Fed’s incremental decisions might force investors or consumers to be a little more cautious,” said David Schawel, chief investment officer of Family Management Corporation, a New York wealth management firm.
At the end of the year, the overarching view on Wall Street is that 2022 will be a bumpier ride, if not a roller coaster ride. In a recent release, JP Morgan analysts said they expected inflation – currently at 6.8 percent – to “normalize” in the coming months and that the surge in the Omicron variant of the coronavirus is unlikely to stimulate economic growth will brake.
LPL Financial, a brokerage firm, did a similar thing, saying that interest rates will get “modestly higher” in 2022.
The S&P 500 stock index had a great run in 2021, rising more than 25 percent – on top of its 16 percent surge in the first year of the pandemic. The index hit 70 new closing highs in 2021, in second place after 1995 when it was 77, said Howard Silverblatt, an analyst at S&P Dow Jones Indices. Friday’s stocks were largely unchanged.
The market continued to grow due to political, social and economic tensions: On January 7, the day after a pro-Trump mob stormed the US Capitol, the S&P set another record. Millions of amateur investors stuck at home during the pandemic also flooded the stock market, buying stocks of all kinds of companies – even those that no one expected to make money like, like video game retailer GameStop.
What you should know about US inflation
Wall Street also remained optimistic about the business outlook in China, despite Beijing’s growing tensions with the United States and increasing control over Chinese companies. Waves of coronavirus variants, from Delta to Omicron, and a global death toll of five million didn’t deter the stock market surge; his recovery from each panic attack was faster than the previous one.
“2021 has been a great year for the equity markets,” said Anu Gaggar, global investment strategist for the Commonwealth Financial Network, in an email. “Between federal incentives that keep the economy going, loose Fed monetary policies that keep markets liquid and interest rates low, and ongoing medical improvement that is surprising growth, markets have been in the best of all worlds . “
Last year seemed promising for new stock issues too, with nearly 400 private companies raising $ 142.5 billion in 2021. By the end of the year, however, investors had sold many of the newly listed stocks on the New York Stock Exchange or the Nasdaq. Renaissance IPO, a publicly traded fund that tracks IPOs, is down about 9 percent over the year.
Shares in Oatly, an alternative to oat-based dairy milk, rose 30 percent when it went public in May, but are now 60 percent below their opening day closing price. Stock trading start-up Robinhood and dating app Bumble, two other big public debuts, fell around 50 percent in 2021.
The first signs that the stock market could end its recent bull run surfaced in the second half of 2021, when the prices of housewares, gasoline and more began to surge, sparked by supply chain disruptions due to the pandemic. Used car prices skyrocketed amid a global scarcity of computer chips. As Covid-19 vaccination rates improved, companies trying to reopen had to raise wages to attract and retain employees. Consumer prices rose 5.7 percent in November compared to the previous year – the fastest they have been since 1982.
But even after “inflation” became a buzz phrase that made headlines in The Onion, the stock market was slow to respond to price increases.
“The market is on the side that inflation is temporary,” said Harry Mamaysky, professor at Columbia Business School. “If it doesn’t and the Fed needs to step in and raise rates to curb inflation, markets and economic growth could get much worse.”
And that is exactly what the Fed announced in 2022.
When interest rates rise, borrowing becomes more expensive for both consumers and businesses. This can hurt corporate profit margins and make stocks less attractive to investors, while at the same time weakening consumer demand as people have less money to spend as their mortgage and other loan payments go up. Over time, this tends to drain the stock market and reduce demand, bringing inflation back under control.
“I expect 2022 will be bumpier as returns won’t be as easy as 2021 or most of 2020,” said Greg McBride, an analyst at Bankrate, a personal finance firm. “Even if the economy continues to grow, the Fed’s tightening of monetary policy will raise valuation concerns and this will lead to increased volatility.”
Higher interest rates could also dampen investor enthusiasm for stocks, as bonds would generate higher returns than in recent years. In fact, LPL Financial predicts that the yield on 10-year government bonds, one of the most tracked government bonds, will rise to 1.75-2 percent by the end of 2022.
Frequently asked questions about inflation
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What is inflation Inflation is a loss of purchasing power over time, which means your dollar won’t go as far tomorrow as it is today. It is usually expressed as the annual change in the price of goods and services for everyday use such as food, furniture, clothing, transportation costs and toys.
What causes inflation? This can be the result of increasing consumer demand. However, inflation can also rise and fall due to developments that have little to do with economic conditions, such as limited oil production and supply chain problems.
Is Inflation Bad? It depends on the circumstances. Rapid price increases mean trouble, but moderate price increases could also lead to higher wages and employment growth.
Can inflation affect the stock market? Rapid inflation usually means trouble for stocks. Financial assets in general have performed poorly during past inflation booms, while tangible assets such as houses have held up better.
Mr McBride said the values of many stocks were backed by extremely low government bond yields, particularly the 10-year yield, which has held at around 1.5 percent.
“As that rate of return increases, investors will reevaluate how much they are willing to pay for every dollar of profit they make on stocks,” he said. Even if corporate profits, which were strong in 2021, continued to grow in 2022, it is unlikely that they will grow “at a pace that continues to justify the current share price.”
What ultimately happens to the stock market in 2022, however, depends on whether the Fed’s plans to lower inflation through a gentle tightening of monetary policy work as intended.
In addition to an expected rate hike, the Fed is dismantling a pandemic-era program that should support the market. In the spring of 2020, the Fed began buying bonds to pump additional money into the financial system and help companies stay afloat during major slumps in their businesses. The Fed announced in December that it would accelerate the withdrawal of this aid, which should be completed in March.
“The nightmare scenario is this Fed tightens and it doesn’t help,” said Aaron Brown, a former risk manager at AQR Capital Management who now manages his own money and teaches math at New York University’s Courant Institute of Mathematical Sciences. Mr Brown said if the Fed couldn’t do a “soft landing” for the economy, things could get ugly quickly.
And then, he said, the Fed may have to “take very aggressive action, like raising interest rates to 15 percent or controlling wages and prices like we tried in the 1970s.”
Likewise, even if moderate, the Fed’s actions could also sell off stocks, corporate bonds, and other riskier assets if investors panic when they realize the free money that drove their risk taking is in Eternity is driven to greater extremes in recent years will definitely disappear.
Sal Arnuk, a partner and co-founder of Themis Trading, said he expected 2022 to start with something like “a hiccup”.
“China and Taiwan, Russia and Ukraine – if something happens there, or if the Fed surprises everyone with the rate of rejuvenation, there will be some sales,” said Arnuk. “It could even start with Bitcoin, but then people will start selling their Apple, their Google.”