Happy New Year! I hope 2022 is off to a good start for you. I am optimistic that it will be a great year!
My indicators are still positive for the stock market and the economy. We are enjoying loose monetary conditions and economic reopening, although the monetary conditions aren’t quite as loose, and the economy isn’t quite as re-opened! Despite higher inflation and continued supply chain issues, the U.S. consumer remains healthy and overall demand continues to be strong. With this backdrop, stock prices should continue to move higher in 2022.
There were a number of surprises in 2021. Government stimulus was larger than expected, including direct payments to individuals and extended unemployment benefits. Vaccines arrived sooner than anticipated, although there has been significant reluctance to accept them. Consumer spending and business investment were very strong in the first half of the year, but the Delta variant and supply shortages slowed growth in the third quarter.
The economy is expected to improve further in 2022, but not at as brisk of a pace as in 2021, largely due to reduced support from fiscal policy. Omicron will probably slow near-term growth, but temporarily, as we saw with the Delta variant.
Labor force participation will likely be a key variable in 2022. The unemployment rate has fallen sharply, but labor force participation has been flat over the last year. Some older workers opted for early retirement, and early retirements are likely to continue in 2022. Dependent care issues, at both ends of the age spectrum, have also been a factor restraining labor force participation. Fewer older Americans have been going into nursing homes during the pandemic, and childcare appears to be more expensive and less available than before the pandemic. That has put a lot of pressure on households to provide care, offering fewer opportunities to work outside the home. Higher wages might encourage some people to return to the workforce, especially if care becomes more available, but probably not to pre-pandemic levels in 2022.
Inflation rose noticeably in the spring of 2021, but increases were narrow across sectors. Parts of supply chains have begun to improve, but price increases are now evident over a wider range of sectors than before, suggesting that inflation has become more broadly rooted. The Federal Reserve has even stopped using the word “transitory” to describe inflation.
The Federal Reserve also began to reduce (the famous “taper”) the pace of bond purchases in November, with the goal of ending the purchases by March. We believe that “tapering is not tightening,” although monetary policy is expected to become less supportive in 2022, with an interest rate hike likely by the middle of next year. Perhaps more will follow later in the year. Historically, initial rate hikes have not caused the end of bull markets, so I don’t think we’ll have to worry about that just yet. It’s typically the last rate hike that kills bull markets—the trick is knowing which one is the last one!
Unfortunately, the Fed has to walk a tightrope. There’s a chance that the Fed may either overdo it by raising rates too much, causing slower growth or a possible recession. On the other hand, they may not raise rates enough, causing the need for further tightening later. The data is changing so quickly that the Fed will have to be quick, and flexible, in its policies.
Overall, we see tapering and tightening as more of a process than an event. At each step, stocks could see some added volatility, but unless other factors (COVID, etc.) evolve, we believe market drawdowns will not end the bull market. Some pullbacks may be deeper than the normal 10%, so it will be important to have a willingness to adapt to changes in 2022. We have a plan for dealing with the expected trouble spots, but we are going to be open to new solutions should new problems present themselves.
Interestingly, borrowing by public companies is as low as it has been in several years, meaning that corporations should have plenty of cash to fund capital expenditures. While that may add to inflation, it should be beneficial to overall economic growth. On the consumer side, they are very strong from a financial position, especially regarding savings. If consumers decide to spend some of their savings, and perhaps even go back into debt, that provides another source for a sustained strong recovery.
In summary, the 2022 economic outlook is optimistic, but the view may shift throughout the year. Labor force participation, inflation, and Federal Reserve policy are key uncertainties. Investors should be optimistic as well, but prepared for uncertainties. We expect overall economic growth to remain above average, supporting solid earnings growth, which is important since earnings have been the primary driver of stock prices over the long-term. It also appears that broad-based tax increases (corporate, individual, estate, dividend, capital gains, etc.) are not likely to be included in Build Back Better. I am a supporter of infrastructure spending, as I believe it pays dividends, but in the near-term, the lack of tax increases will likely support stock prices.
The markets will be closed on January 17 to observe Martin Luther King Jr. Day, and January 18 is when estimated tax payments are due, so keep those dates in mind.
Speaking of dates, on January 31, Raymond James will begin mailing year-end tax forms for retirement accounts (like 1099-R). Then, on February 15, Raymond James will begin mailing 1099 tax statements for non-retirement accounts. Amendments to these will continue until March 15. Given that, now is a great time to begin to organize your other tax documents so that when you get your forms from us, you’ll be ready to file your taxes. Hopefully, you saw our recent announcement that we acquired Nancy Waring and Associates, an accounting firm. Our hope is to provide you with an integrated financial services team. Of course, we’re always happy to work with your existing tax preparer, too.
As always, these opinions are mine, and may or may not be the same as those of Raymond James. This is not a solicitation to invest, although we do invite you to review your portfolio with us to see if any changes should be made.
Past performance may not be indicative of future results. There is no assurance any of the trends mentioned will continue or forecasts will occur. Investing involves risk including the possible loss of capital. Asset allocation and diversification do not guarantee a profit nor protect against loss.
The forgoing is not a recommendation to buy or sell any individual security or any combination of securities.
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