A Market Pullback or Something More?
Here’s a chart below of the S&P 500 Index (in yellow), the NASDAQ Composite Index (in purple) and the Bloomberg Aggregate US Bond index (in blue) since the end of June. At the midway point of the third quarter and after most companies have reported earnings, the capital markets are retracing some of their YTD gains. The second chart shows those same indices on a YTD basis.
The trillion-dollar question is why is the pullback happening now?
Here are the contending causes:
1) The market got a little ahead of itself, with valuations too high and making the market susceptible to a pullback
2) The anticipated earnings recovery is delayed into the future
3) The Fed may continue raising rates because inflation is still present
4) The economic weakness manifesting in China is so severe that there is a worry this will spread and lead to global economic weakness
5) The US economy is on the verge of a recession as signaled by the stubbornly inverted yield-curve.
The reality is that the pullback is probably due to all these factors BUT their weights are not equal. The last two still seem currently to be much lower probability while the first two are very likely at work here. Could this develop into something more? Most certainly it could. It will take two to three more quarters to see whether we are dealing with broader recessionary problems or whether this is a “run of the mill” pause.
For now, the consensus expectation is in the driver’s seat, namely: earnings growth will resume, inflation will recede to the Fed’s target, GDP growth will accelerate, and we’ll all have a merry Christmas in December. That’s our baseline expectation until we see firm evidence to the contrary.
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