All Eyes on the Fed This Week

This week should bring some clarity around a couple of the issues that have been causing some of the stock market weakness. But I do not expect the information to materially alter the current bear market nature of the market. Here’s a look at the equity markets for the week just past:

Last week we had additional inflation readings that were once again higher than expected. This market weakness began just around the start of the new year and all major equity indices are now down over 10% year-to-date. Markets have been weak for four primary reasons: 1) Inflation, 2) Fed Policy, 3) Stock Valuations, and 4) the Russian invasion of Ukraine.

While stocks normally hold up reasonably well in an inflationary environment, there are factors working against stocks during this inflationary cycle. We entered the new year with extremely high stock valuation levels: stocks were priced for perfection. Given this, any whiff of weakness or any threat to stocks has led to selling. Given the inflationary threat, there has been a lot of talk about a change in Fed policy; both in terms of its balance sheet and interest rate policies. Every time the Fed has talked, the market has sold off. This week the Fed will meet and announce its policy changes as well as provide some guidance about future policy actions. We think the Fed is going to be incremental and even-handed, which will prolong the inflationary problem. Consequently, we are expecting more of the same though a short-lived relief rally is a real possibility now. Even so, we expect more weakness from equity markets after any short-lived rally. We simply have more work to do concerning inflation and Fed policy. Uncertainty around these things still prevails. Add to this the war in Ukraine and this simply is not the time for risk assets to be rewarded in the capital markets.

We will get readings on retail gas prices, commodity prices, Fed rates, and construction and housing data in the week. Concerning Ukraine, war is hell. That would be welcome if we can avoid more pain and gain peace, but we are prepared for more carnage under the brutal Russian attack.

While we are in a bear market season, take heart. This season will eventually pass. It could be a few months or a couple of years. A long-term investment horizon always includes periods such as these. In the long run, events like these are a mere bump in the road. As things progress, we will be writing these weekly notes for perspective.

 

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