For investors, 2022 has been a rollercoaster year. Stock markets around the globe have seen historic declines over the first half of this year and recent recovery. As the world emerged from the pandemic, war broke loose in Eastern Europe, creating shortages and driving inflation.
Central banks continue to take forceful steps to control rising inflation through steep interest rate hikes. In June the Federal Reserve increased interest rates by 0.75%. It’s the biggest hike since 1994 and is designed to reel in inflation. US interest rates now range between 1.5% and 1.75%. The bank has also revealed that further interest rate hikes will follow. Time will tell how interest rates will impact stock markets.
Inflation, interest, and employment
In June 2002 the US inflation rate reached 9.1%, its highest level since 1981. In July at 8.5%, inflation beat the market expectation of 8.7%. Fast falling fuel prices have helped to turn the inflationary tide earlier than expected.
Despite concerns that the interest rate hikes could lead to a recession, there has been plenty of good news too. The publication of the July Producer Price Index (PPI) brought a surprise 1.8% reduction in product prices. The PPI has increased by 9.8% year over year.
Employment rates are also surprisingly buoyant. The economy added an astonishing 528,000 jobs in July. At 3.5%, unemployment is now at its lowest level since 1969, and consumer sentiment has also started to rise from record lows.
The NASDAQ has responded to the economic improvements. The exchange is now in a bull market 20% higher than its lowest mark in the middle of June.
Stock Markets
For stock markets, the first half of 2022 saw the biggest drop in share prices since 1970. In the first six months of the year, the S&P 500 dropped by 20.6% and the NASDAQ by a whopping 28%. The losses were a direct result of inflation and the central bank’s slow response.
Yet many of the losses have since reversed. In July the S&P 500 saw its best performance in almost two years at 9.1% growth. It has now recovered almost half of this year’s losses. This may indicate that investors expect the Federal Reserve to react to a flagging economy by softening its aggressive interest rate stance. Some investors are likely also taking advantage of lower share prices by buying stocks.
What Direction Will Stock Markets Take Now
The jury is out on what direction the stock markets will take for the rest of the year. Markets hate uncertainty and further interest rate hikes are likely before year end.
Despite the improved inflation outlook, there is still a long way to go before the inflation rate is back at 2%. The war in Ukraine could continue to drive up fuel and food costs, and the International Monetary Fund has warned that the ongoing war in Eastern Europe will dampen global growth.
On the other hand, market analysts have pointed out that the percentage of S&P 500 stocks currently trading above their 50-day moving average is at 93%. This is the highest level since June 2020. Historically when more than 90% of the S&P 500 shares are above their 50-day moving average, the market is almost always substantially higher a year later.
Fears of Recession
The US has technically entered a recession with GDP contracting in the first two quarters of 2022. Yet, declining unemployment figures suggest that the economy is far from a recession. Still, near full employment may give the central bank space to further increase interest rates to slow the economy. Full employment will mitigate the effects of slower growth on the labour market.
Though recession in the US may have been forestalled, there is still a very real possibility that it may happen as the gap between two- and ten-year treasury yields remain inverted. An inverted treasury yield curve has heralded every recession since 1955. Inflation rates remain high so interest rates will continue to rise, slowing the economy.
