June 30, 2022
The second quarter of 2022 was rough sailing, no matter where you were invested. The S&P 500 fell -16.1% in the quarter to bring the year-to-date loss to an even -20.0%. Technology stocks were the hardest hit, averaging declines of -22% for the quarter and -29% year-to-date. Normally bonds provide some cushion in times of business pessimism, but instead they also fell. The Aggregate Bond Index lost -4.7% for the quarter and more than -10% so far in 2022.
The Strategas Research chart below shows the market value of the S&P 500 Index from January 1, 2005 through June 30, 2022. The first decline highlighted (2007-2009) reflects a loss of $11 trillion. The current decline has already cost investors $14 trillion, although the decline is smaller as a percentage because the market started at a much higher level. Still, this is a huge loss of wealth, and does not include the monies lost in bonds and crypto currencies. Combined with elevated inflation, it is not hard to imagine that consumer spending will face challenges as a result. The University of Michigan consumer sentiment survey turned in a record-low reading in June 2022.
The pervasive fear is that we are headed into a recession. We have a contrarian theory, however. What if we are already in the recession, currently in the ‘eye of the storm’? Home prices and oil prices are rolling over, wage gains and consumer spending are both negative when adjusted for inflation, inventories are suddenly too high (i.e., supply chains are loosening), and employers are beginning to lay off employees. Banking, technology, and retail firms are announcing layoffs, which will help the too-tight labor market and moderate that inflationary impact. The Federal Reserve has accelerated its tightening campaign by raising short-term interest rates 75 basis points at their most recent meeting, with the possibility of another above-average increase at the next meeting as well. This will help them reach their target more quickly.
Corporate earnings reports begin mid-July. Our belief, shared by many investment strategists, is that earnings expectations for the year ahead are still too high. As companies report their second quarter results, they are likely to ‘lower guidance’, indicating that they are not as optimistic about the next few quarters as Wall Street estimates reflect. This could keep downward pressure on stock prices for a few more weeks.
The stock market trades on future expectations. As further evidence of economic weakness and peak inflation emerges, investors will shift focus to the anticipated recovery. It’s important to remember that we never know we are in recession until it has happened; these are identified based on trailing economic data. By the time they are identified, the market is often already recovering. In some cases, stocks even rose during the recession. Investors are particularly anxious about recessions because 2008-2009 is still fresh in mind. That was far worse than normal; major financial institutions collapsed during that period. Banks are better capitalized than they were in 2007, and recessions are a normal part of the economic cycle.