July 29, 2022
All indications are that this bounce will run higher.
While there is a LOT of pessimism on the economy and it is just beginning to run its course, there is a LOT of positive activity in the equity and bond markets to suggest that there may be more upward moves. It is likely this is a bear market rally, but these can be quite enriching and durable, and the building momentum over the past five weeks suggests a higher level of safety.
The S&P 500 has broken through two of the more significant barriers to a move higher, the downward trend channel, as well as the 50 day moving average. It remains to be seen if it will break through resistance at ~4,160, but if it does, it will encourage a lot of buying.
Co-incident with the improving situation with equities, bond yields are starting to moderate slightly. The chart below, showing the yield on the US 10 year Treasury (weekly) suggest the market thinks it has priced in the rate hikes for the foreseeable future.
In Chairman Powell’s comments after raising interest rates by 0.75% this week, he was just as confusing as ever, suggesting rate increases would abate when inflation was under control. That statement was within minutes of statements like “Inflation is much too high”. Investors, using an abundance of optimism took that to mean the end is near.
If watching markets is something you want to do, then this rally looks like it might run for a while, however there is a strong likelihood that prices will be lower in the coming quarters. It seems pretty clear that the inflation that is causing so much upset currently, as well as the slowing that the Fed is looking for, will affect earnings before year end.
If you don’t want to pay attention closely, another approach would be to invest any spare funds over a long period. Buy some now, and wait until October and repeat.
Continue to be wary of international risks, as they can upset markets quickly and drastically. Similarly, sovereign, economic and single issue risks can appear very quickly and cause a quick change in market dynamics. During ‘normal’ periods, many of these risks are manageable. Managing them when there are multiple events simultaneously or during periods of unusual external stresses can add to difficulty. Some key items to watch include:
- China – Chinese real-estate, sovereign debt and Covid issues are significant risks
- Russia – Russia continues their aggression in Ukraine and other countries. There is a significant risk that this could spread to a major conflict in Eastern Europe and will further hurt supply chains, commodity prices and more
- European Debt Levels – Europe is facing a wide array of issues, some due to the Russia-Ukraine conflict, but others based on years of over spending.
- USA – the polarization in society and excessive debt levels all have the potential to undermine economic stability, as well as cause significant issues for individual companies.
- Weather – The weather is causing significant volatility around the world. Heat is a major factor, but the knock on effects of excessive heat are more significant. Drought, fire and pre-mature death are causing havoc in many places. The economic impact of these events are hard to predict.