Thank you for your continued confidence and trust in Nicolet. Market sentiment in early 2022 clearly turned bearish as investors grew increasingly concerned about slowing growth, inflation, and higher interest rates. The recent level of volatility likely feels even more elevated because 2021 was an exceptional year for equities marked by historically high returns and low volatility.
The S&P 500 Equity Index experienced 70 record high closing prices in 2021, the second most ever. Ultimately, the total return for the S&P 500 was 28.7% in 2021. A strong return that was well above the 10-year average annual return of 16%, and the 50-year average of 11%. Most impressive and unusual was that the largest pullback during 2021 was only about 5% in September, well below the 40-year average annual pullback of 14%.
In stark contrast, 2022 started with a nearly 10% decline in the S&P 500, through January 27th. The Nasdaq Composite, which contains more growth and technology stocks, declined by around 15% over the same period. Investors turned increasingly negative after the December Consumer Price Index (CPI) reported that prices were 7% higher year-over year, the highest rate in nearly 40 years.
Investors continued to be concerned that a more hawkish Federal Reserve would subsequently lead to higher interest rates. Specifically, the risk that the Federal Reserve would raise interest rates too high and too fast which could negatively impact the economy and ultimately cause a recession.
Since the start of the year, the Federal Reserve has continued to turn more hawkish, causing a material repricing of U.S. Treasury yields. For example, the yield on a U.S. 2-year Treasury note has more than doubled in less than six weeks.
Looking back at the past nine Fed rate hiking cycles since the 1970s, equities historically have delivered positive returns. However, the speed of interest rate changes matter. In periods when rates increase or decrease dramatically, as we have witnessed thus far in 2022, equities historically have declined during the period of transition.
Going forward, we remain positive on equities considering the following. The market is currently pricing in six rate hikes in 2022, and it is unlikely that the Federal Reserve would be able to raise rates more than that this year especially with midterm elections in November. Inflation should slow down as interest rates increase, and the recent month-over-month trend of decelerating growth is encouraging with January +0.6% compared to the previous three-month average of around +0.8%. Finally, the recent pullback in the equity market can be explained by lower valuation multiples. Encouragingly, estimated company sales and earnings have both remained resilient and continue to see positive revisions.
Although increased volatility will likely persist, our near-term outlook for the capital markets remains positive. However, our optimism remains tempered by the potential for higher sustained inflation, increased risk of potential Covid-19 variants, geopolitical risks, and potentially adverse policy impacts on the financial markets.
As a result, Nicolet Wealth Management continues to maintain a disciplined long-term approach and is prepared for a range of potential outcomes. If you would like to discuss your account in more detail, please contact us at your convenience.
Nicolet Wealth Management
Investment and insurance products:
– Are Not FDIC Insured
– May Lose Value
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– Are Not Guaranteed by Any Federal Government Entity
– Are Not a Condition to Any Banking Service or Activity
Nicolet Wealth Management is a brand name that refers to Nicolet National Bank and certain of its departments and affiliates that provide investment advisory, trust, retirement planning and insurance services. Nicolet Advisory Services, LLC, is an investment adviser, registered with the U.S. Securities and Exchange Commission, and an affiliate of Nicolet National Bank.
Past market activity is not indicative of future results, and changes in any assumptions may have a material effect on projected outcomes. Investing in securities entails risk, and the potential for losing money always exists when investing in securities. Asset allocation, rebalancing, and asset diversification will not ensure account protection in a declining market, and cannot be relied upon to enhance gains in a rising market.
Neither Nicolet Advisory Services nor its affiliates offer tax or legal advice.