Economic Monitor: A Bumpy Ride Continues

BY: Steve Slocum


In the simplest terms possible, investing is a journey from point A to point B. Thinking about that journey as a road trip, most would prefer the ride to be as smooth as possible. However, bumps, traffic, and even a detour or two are inevitable. They're simply part of what you sign up for when you hit the road. 

The month of May saw continued volatility, swinging significantly both to the upside and downside, yet finishing mostly flat (the S&P 500 was up 0.18% for the month). As 2022 progresses, we continue to see the markets being quite volatile and bumpy, and this is likely to persist.

While most of the attention has been on the stock markets, it’s important to not lose sight of the bond markets as well, especially for a balanced investor who owns both stocks and bonds. Conventional wisdom has it that when stocks go down, bonds go up, and vice versa. So far, in 2022, that hasn’t been the case. Both stocks and bonds have had a rough time, with the S&P 500 down 21.83% and the Bloomberg US Aggregate Bond Index down 12.10%. The question is whether that trend continues into the summer months and beyond. Let’s take a look at the markets, the economy, and the Fed as we review what happened in May.

Financial Markets

As previously stated, despite the volatility, the month ended about where it started, thanks to a 6% rally during its last full week (it was the best week for the Dow Jones & S&P 500 since November 2020). The Dow Jones Industrial Average gained 0.33% for the month, while the S&P 500 gained 0.18%. The NASDAQ was the lone index on the downside, down 1.93% for the month. The fixed income side of things ended mostly flat, with the Bloomberg US Aggregate Bond Index up 0.64%. International stocks were also flat, ending the month up 0.21%.

Despite the markets generally not being negative for the month, it should be noted that we are likely not out of the woods yet. Investors are still keeping an eye on inflation, Fed monetary policy, interest rates, and the ongoing war in Ukraine. Despite the uncertainty, the markets are still healthy, and most are not calling for a recession until 2023 or beyond. Stable earnings expectations paired with falling equities make for more attractive valuations, and the recent sell-off in bonds may create some opportunities on the fixed income side as well.  

Economy

Although gross domestic product (GDP) declined at a pace of 1.4% in the first quarter of 2022, the economy is still in good shape. Though coming down, GDP growth expectations still hover around 2% for 2022, and in the low 2% range for 2023. Wages are rising, employers are hiring, and consumers continue to spend (with a shift from goods to services, such as restaurants, travel, and recreation).

The largest threats to the economy continue to be inflation and the Fed’s actions to combat it. A recent survey showed that one out of four Americans is delaying retirement due to inflation, with 36% of survey respondents saying they've reduced their savings due to inflation, and another 21% saying they're putting away less for retirement. Reaching its highest levels in over 40 years, inflation continues to run hot, with things like shelter, food, airline fares, and new vehicles continue to reach higher prices. Gasoline prices are up more than 50% over this time last year, according to AAA, with the national average for a gallon reaching $5.01. 

Fed Watch

As expected, last month, the Fed raised interest rates for the second time since March, moving them 50 basis points higher. That was the first 50-basis-point increase since the year 2000. Fed Chairman Jerome Powell has made it clear that the Fed will not hesitate to keep raising rates until inflation comes down. When it meets again this week, it is possible that the Fed will take its most aggressive action yet to bring consumer costs down, raising rates by 75 basis points, followed by another increase of 50 basis points at next month’s meeting.

The Fed has also made plans to start to reduce the size of its balance sheet in June, starting at a rate of $47.5 billion per month for three months ($30 billion of US Treasuries and $17.5 billion of mortgage-backed securities). After three months, it will increase the rate to $95 billion per month ($60 billion of US Treasuries and $35 billion of mortgage-backed securities). No end date or target balance sheet size has been announced at this point. 

Outlook/Summary

Uncertainty remains the major theme in the markets and the economy. Have we reached a bottom for now? Do we continue lower for some time? It seems like each time new data comes out on different areas of the economy, the market takes hold of that information and drives things either much higher or much lower.

In the short term, there is no certainty. There are likely going to be more volatile times on the horizon. The Fed is in the midst of making policy changes that have never been made before. It’s unknown what the consequences of those actions may be over the next month, next year, or five years down the road. We do know, however, that in the long run, markets recover and tend to move higher (the S&P 500 has had average returns of 10.7% per year over the last 30 years).

We continue to maintain our position of staying diversified while fully invested, protecting the downside risk with investments like hedged equity funds or floating-rate funds. Dividend-paying stocks with strong balance sheets may prosper in this environment, and we will look to take advantage of those as appropriate. Bond yields may continue to offer the opportunity to lock in higher rates. We continue to monitor the Fed, the economy, and other news, and assess its collective impact on portfolios as we make our way through the second quarter.

To discuss your portfolio, please call our Wealth Management team at (608) 826-3570. We look forward to speaking with you soon!

Author:

Steve Slocum

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