Straight out, the forthcoming months are not going to be easy. Volatility will continue, and as most experts guess, there is still room for the stock market to drop further.
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This year hasn’t been kind to the markets. The excessive capital injections by the Federal Reserve into the U.S. economy is now catalyzing the onslaught of uncontrollable inflation. This current environment gained impetus after Russia invaded Ukraine.
The Federal Reserve began its damage control from March onwards, in the form of interest rate hikes and asset shrinking. Yet, the three interest rate hikes made in the first half of the year, each time steeper than the last, could not do much to tame the wildfire. U.S. inflation has now reached 8.6% (as of May), its highest point in 40 years.
This means that the central bank might take a more aggressive approach in the forthcoming months, continuing to tighten its policy till inflation drops to about 2-3%, despite putting the economy at a deeper risk of recession.
June’s Data Might have more Answers
It is still too early to say how the year might be for the stock market, but economic data from June may give us a better idea. It is almost time for another interest rate hike and the markets are jittery. In fact, this week is going to be power-packed with the Federal Reserve’s July meeting minutes due to be released on Wednesday, and June’s jobs report to be released on Friday.
The good news is that economists surveyed by Dow Jones expect the unemployment rate to remain low and steady at 3.6%. However, experts are expecting June’s non-farm payrolls to have moderated from May, hinting at a cooling job market. And even though Dow Jones estimates 250,000 payrolls to have been added in June, many experts are seeing a slowdown in the cards for the third quarter and possibly continuing throughout the year. This worry comes from the rising cost of employers amid inflation and higher interests.
Nonetheless, even if the additional payroll count falls to 150,000-200,000 in the early Q3 as widely estimated, it will still be closer to pre-pandemic job-growth levels, and hence considered strong.
Bracing for a Rough 2H?
Despite these bittersweet June jobs expectations, we are entering the second half and the third quarter of the year with stronger fears of a recession.
In fact, the economy is already showing signs of contracting. A slew of various economic data, including consumer spending and income, are indicating the same. Moreover, points for the employment section of the ISM June manufacturing survey declined for the third straight month to 47.3, falling below the threshold level of 50, which indicates a contraction.
Moreover, in May, the U.S. household spending witnessed its slowest monthly gain of 0.2% growth, according to the Commerce Department. The data was revealed last week, and has provided a level of certainty to the recession fears.
Also, the sky-high food and gas prices are keeping more people at home and away from restaurants. Retail is also expected to take a further hit in the coming months as money becomes more expensive.
Another important concern is brewing in the financial services sector. As we know, the steep appreciation in interest rates are coming in the way of many funding and acquisition deals. Investment banks including Bank of America (BAC), Credit Suisse (CS), and Goldman Sachs (GS) which have a pipeline of loan promises made to businesses when debt was cheaper and in-demand, are running the risk of losing significant amounts of money. This might not bode well for investors in the financial sector.
The inflation and the risk of a recession have led investors to flock out of the stock market, pushing the S&P 500 (SPX) index and the Nasdaq 100 (NDX) firmly into the bear market with a 20.2% and 30% decline year-to-date, respectively. Moreover, the Dow Jones Industrial Average (DJIA) has slipped 15% so far this year.
Importantly, Morgan Stanley (MS) looks at a further 10% decline in the S&P 500 this year before bottoming out, as chances of two consecutive quarters of negative economic growth have doubled since June’s 75 basis-point interest rate hike.
Parting Thoughts
Understandably, with consumers rationing every essential expense, one cannot expect too much money going into the stock market right now. The market is expected to continue to remain under pressure the entire year before reaching a bear-market trough.
Skeptics are either pulling out their money or freezing their stock positions. Optimists are trying to bottom-fish and take advantage of low stock prices by accumulating positions. This is what is fueling the volatility, and is expected to continue for the second half of the year. This is also a trend which is observed before a recession.
All things said, waiting for the tide to pass is a wise thing to do, as bear markets and recessions don’t last forever. Recall, America’s longest bull market was born in the depths of the Great Recession of 2009, and took investors for an 11 year-long ride before the pandemic hit. The S&P 500, the Dow, and the Nasdaq Composite had dropped a massive 37.4%, 36.3%, and 30.8%, respectively, through the 18 months of the 2007-2009 recession, before bouncing back strongly.
