Review the latest portfolio strategy commentary from Mike Gibbs, managing director of Equity Portfolio and Technical Strategy.
As expected, the Fed accelerated/doubled its tapering pace at this month’s FOMC meeting with asset purchases set to end in Q1’22. Messaging moved more hawkish with the median dot plot reflecting three fed funds rate hikes in 2022 and another three in 2023. The initial rate hike is likely by the end of Q2 and could come as early as March. Labor market data will be key to this timeline with inflation well above desired levels, i.e. December core CPI and PPI pushed higher to 5% and 9.7% respectively. The Fed’s hawkish pivot is prudent in our view with very loose financial conditions and elevated inflation. The Fed revised its 2022 GDP estimate to 4% growth, 2.6% core inflation, and 3.5% unemployment rate- a solid economic backdrop should it prove accurate. That said, given that the Fed has been so important to equity markets since the credit crisis, a normalization of policy (and more hawkish pivot) could come with more moderate returns and normal volatility/choppiness over the next 3-6 months.
With investors preparing for rate hikes in 2022, we look to previous examples for clues on how this might progress. Historically, 3-6 month returns prior to the first rate hike have been solid with more moderate returns afterward. However, Fed policy has become much more telegraphed and uniform over time. In looking at the last two rate hike cycles (and granted each period is different), choppiness occurred more in the lead-up (i.e. US was in a manufacturing recession during the 12-14% pullback in 2015, and there was a more normal 8% pullback around the first hike in 2004). The Fed’s hawkish pivot from ultra-lenient policy toward more normalized policy could come with more moderate returns and normal periods of volatility in 2022 (vs what investors have grown accustomed to since March 2020). Rate hikes alone do not derail equity markets and concerns become more heightened following a yield curve inversion, which is far off. Volatility can be purchased with conditions likely to remain healthy.
The S&P 500 has been basing since early November. And beneath the surface lately, there has been some defensive rotation- at least in part as caution ahead of yesterday’s FOMC announcement. We have a bias for the Fed’s hawkish pivot to be a headwind for appreciably higher equity prices and may result in more range-bound trading. Basing may continue but positive seasonal factors, along with a healthy macro and overall earnings growth supports accumulating when the market is near technical support or if a deeper decline (normal pullback) develops. Key resistance to monitor is nearby at recent highs in the 4715-4745 area. Support levels include 4594 (50 DMA), 4465-4495 (horizontal support), and the 200 DMA (upward-trending at 4338).
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