Weekly Update

Market Offering Almost Nowhere to Hide

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Published May 6, 2022


This week the Fed made the first of their larger interest rate hikes with a 0.5% move (50 bps in bond market parlance). Here’s the path of Fed interest rates that the market foresees – straight up from now through March 2023.

Fed interest rates that the market foresees


That would leave short-term interest rates at 3.25%, a very long way from the 0% of the recent past. Of course, the market has already done a lot of this work as the 2-year yield stands at 2.7%. The stock market has some indigestion around the fact that the 5, 10, and even 30-year yields are all around 3.0%. This means that investors are not anticipating much economic growth ahead, at least not enough to continue pushing yields upward. Nor are investors expecting much inflation. If a 5-year yield is 3.0%, investors would be expecting inflation to be well under 3% out in time.

This sharp lift in interest rates has caused notable losses in the bond market. The chart below shows the performance of the primary bond market benchmark (the “aggregate” bond market, or “AGG” for short). Year-to-date losses of -10% are common among bond managers these days.

Primary bond market benchmark performance

One big net effect has been that bonds have not offered their usual counterweight in balanced portfolios (where bonds go up when stocks fall, thus mitigating risk). As a result, traditional 60/40 balanced portfolios are showing losses of 8-10% so far this year. Only those with some commodity exposure are faring a little better.

The stock market has been a complete mess, with the Nasdaq just logging its worst monthly loss in decades. Of perhaps greater concern to investors has been the widening of the losses in recent days to previously “safe” or “defensive” sectors. Here’s the performance of the stock market’s major sectors in the second half of April (traditionally the strongest month of the year!).

Stock market’s major sectors in the second half of April

That’s ugly! Stepping back a bit in timeframe, we do see the defensive sectors notably outperforming.

Defensive sectors notably outperforming

And that is following the broader sector rotation playbook for Market Top/Full Recovery as shown here:

Broader sector rotation playbook

In short, it’s a very unpleasant year so far in markets, broadly, with energy, commodities, and the U.S. dollar among the very few safe places to be. This is all potentially pointing to a market in the midst of a more significant decline and the economy rolling over. We note that this phase of the market and economy tends to happen relatively quickly – 12-18 months. We are already about 6 months into this bearish phase. Whether the significant market hiccup from Covid in early 2020 makes that a longer or shorter bearish cycle, time will tell.


Market Update

Stocks climbed +0.6% Monday to kick off the month of May after a dismal April. 10-year Treasury yields touched the closely-watched 3% level ahead of the Fed’s meeting this week where the central bank is expected to raise short-term interest rates by 0.5%. Stocks added another +0.5% Tuesday though the market is still showing fairly muted reaction to what has been a very solid earnings season. Wednesday brought the Fed announcement followed by words from Chairman Powell which kicked off a torrid afternoon rally. Stocks closed higher by +3% when Powell told investors that a widely-expected +0.75% interest rate hike at the central bank’s next meeting was not being ‘actively considered’. In a sharp reminder of how bearish this market is currently, investors saw that monster rally completely reversed in Thursday’s trade. Rather than build on the post-Fed rally, investors sold into it sending the Nasdaq down a massive -5% as bond yields jumped back above 3%. The brutality of this market could be seen in shares of Airbnb (ABNB) and Starbucks (SBUX). The stocks rallied +8-10% on earnings news Wednesday, only to see those gains evaporate over the following two days. Friday brought a huge monthly jobs report. But good news is bad news these days on the economic front with investors focused on the Fed’s interest rate path ahead, and fearing that strong economic news gives the Fed more leeway to raise rates at a quicker pace.

A fifth straight week of extremely turbulent and highly negative market action saw the S&P 500 (SPY) down only -0.16%. However, the index gave up a 4% gain (+6% trough to peak) by week’s end. The Nasdaq 100 (QQQ) slid another -1.28% with an equal drop for smallcaps (IWM)  on the week. All indexes touched fresh lows for this corrective cycle during this week’s selling.

Warm wishes and until next week.