As summer unofficially started last weekend with Memorial Day, so starts what are usually slow trading days in the stock market. Historically, summer has meant vacations for many on Wall Street, and that has led to lower volumes and markets that, despite heightened volatility, have often ended the summer on Labor Day at about the same levels as they started summer on Memorial Day.
That’s not always the case, such as with the big rally in 2020 coming out of lockdown. I suspect that this summer will see heightened volatility, with mid-term election campaigns heating up (and the rhetoric around that), high inflation, high gas prices, and a war in Europe contributing. Also, remote work capabilities have reduced the impact of vacation days.
Despite a small rebound in stock prices in May, it’s been a tough year in 2022 for most financial assets, with stock and bond indices being down for the year. We usually don’t see that happen, which is why we encourage diversified portfolios. Unfortunately, with bonds also being down this year, asset allocation hasn’t worked as well as intended.
The 10-year US Treasury bond yield may have peaked (yields move in the opposite direction of prices) for the year at around 3.2% in May. This is important because if the 10-year yield did peak and will be flat or lower for the rest of the year, that could provide some relief for other rates, like mortgages. It may also stem the tide of money fleeing from stocks and bonds, as more stability in bond prices might entice investors back to markets.
As for inflation, I think the “peak inflation” headline numbers may finally start to ease, but that doesn’t mean that inflation will end. If prices rise at 5% rather than 6% going forward, they are still moving higher, just not at as fast a clip. And right now, it’s hard to see what will bring gas prices down. Maybe more production from the Middle East will help, and perhaps if the US Dollar isn’t so stubbornly strong that could help oil and gas prices to stop their ascents.
There’s a great deal of fear around a recession, and I think that there is a better than average chance of a mild recession next year. The definition of a recession is 2 consecutive quarters of US economic contraction, so it’s not the sort of thing you can know about until after you’re in it. The economy has to balance growth and inflation. Push growth too high and, eventually inflation will get too high, too. Like with driving a car, this trade-off works well for short periods of time. But if you keep the pedal down too long, adding too much fuel, then the engine (or in this case, the economy) will overheat. A recession often occurs after this overheating, which in turn lets the economic engine cool off and can reset growth and inflation expectations.
Remember, too, that recessions vary in their sharpness and duration. Since the potential for one is so widely expected, perhaps corporations are taking steps now to lessen some of the pain. The main driver of the US economic engine, the consumer, is on a sound financial footing: household debt is down considerably from highs, and Americans generally have more in savings than before COVID. At any rate, I don’t think that a recession is likely before next year if it happens at all. Stay tuned, though.
It appears that stocks, particularly high-quality, dividend-paying ones, could be a potential opportunity. The market is punishing stocks that have no earnings and/or have high price-to-earnings ratios. Some of them seem cheap, especially compared to where they were, but I’d resist the temptation to buy them just yet. Stocks or companies with earnings are posting good results, so for now, their outlook is still favorable. If I’m right about bond yields having topped out, now is an interesting time to be looking at fixed income, too.
As I wrote last month, “for investors with a long-term time horizon, say three years and more, you can start putting money to work in stocks and bonds. If you’re inclined to check your statement frequently, or if you will need some money from your account for a purchase, I’d suggest being patient. While there will likely be ups and downs, the near-term trend for stocks is downward, and I’d respect that, for now. Let’s hope it changes soon, but we probably need more clarity on China’s Covid response, the Federal Reserve’s stance on interest rates and inflation, and Ukraine before we get much upside traction.” I think that still holds true. We’re making lists of great companies that we’d like to own stock in, and we are prepared to buy them on pullbacks.
In the meantime, I hope you enjoy your summer and try not to let the negative headlines worry you. It looks like lots of people are planning to travel this summer, based on reports from hotels and airlines. If that includes you, I wish you happy traveling! If you do find yourself worrying about the headlines and would like a report on how your portfolio might be affected, please call your advisor and review your financial plan.
The next market holiday is Monday, June 20 for Juneteenth, and then Monday, July 4 for Independence Day, so our offices will be closed in observance.