Market Update: After a Lengthy Hiatus Volatility Returns

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By: Tom Fletcher CFP® and USWM Investment Committee

After a relatively calm 2021, the stock and bond markets are off to rough start this year. Several factors have been influencing prices, but the main reason for the elevated volatility has been a significant shift in the Federal Reserve’s stance on interest rates and inflation. In a relatively short period of time the Fed has pivoted from viewing the recent inflationary rise as a temporary (or transitory) issue to becoming a more persistent problem, now requiring their immediate attention. Remedies they have conveyed to cool the economy from overheating include “tapering” the asset purchase program they initiated as economic stimulus in the spring of 2020, a course of interest rate hikes likely commencing in March this year, and also unwinding their balance sheet. So in essence they have taken their foot off the accelerator of the economy and are now intending to tap on the brakes.

Interest rates affect various market sectors differently. Technology stocks tend to be a group that reacts adversely to rising rates and this has been reflected in the recent performance of the Nasdaq index. Additionally technology stocks have been market leaders for years and have significant representation in broad market indexes such as the S&P 500. So as investors have been rotating out of the sector into others that could benefit from rising rates, such as banks, as a byproduct, market indexes have experienced higher than normal volatility.

While market movements such as these are certainly not enjoyable to experience, we’d like to put things into perspective and take a look where we’ve come from. The S&P 500 rose over 100% from the March 2020 lows to the end of 2021, the Nasdaq 125%. This move has taken place with only one single 5% pullback in 2021. We always like to emphasize to our clients that historically corrections of 10% happen relatively routinely and should be considered a normal, and healthy part of investing. Why? Because speculative excesses are often created when markets only move in one direction for lengthy time periods. Sharp drawdowns can have a beneficial culling effect by removing these speculators from the market place. Volatile environments such as these require patience, a long term focus on investment goals and often avoiding media prognosticators.

While we don’t have a crystal ball, there are potential positive catalysts on the horizon that should be supportive of stock prices. Supply chains appear to be slowly healing, which should reduce inflationary pressure. Business inventories are also rising. Rates, while increasing, remain low on a historical basis. Also, stocks have historically performed well for years into rate hikes. Omicron cases appear to have peaked. Earnings, which tend to drive markets, while slowing, have not stalled, and the outlook remains positive, especially in light of declining virus cases. GDP should also continue to grow, albeit at a slower pace than 2021 now that stimulus is being removed.

Lastly we’d mention that we’ve positioned portfolios in a manner that should be supportive in this current environment. We’ve tilted our asset allocation towards economically sensitive value stocks, which tend to benefit during cyclical economic growth and higher interest rates. Our bond allocations favor shorter durations, which tend to be less interest rate sensitive than longer term maturities. All portfolios remain widely diversified. As always, we constantly monitor markets and economic conditions and will continue to make changes to the portfolios accordingly.

We know each individual family has a different plan and are at different stages of life. If you would like to discuss more specifically about your plan implementation, please feel free to reach out to r any member of the team with further questions.