How Far Will the Market Correction Go? | U.S. Bank

key points

• a bear market, defined as a drop of 20% or more, hit the us. uu. stocks in 2022.
• After a brief market rally in July, stocks lost ground again beginning in August.
• Markets are likely to remain volatile as the The Federal Reserve continues to raise interest rates to combat higher inflation.

US stocks, as measured by the benchmark S&P 500 index, officially fell into “bear market” territory in June 2022. This represents a decline of more than 20% from the index’s peak value. The Nasdaq High-Tech Composite Index (which includes about 3,000 common stocks) and the Russell 2000 Index of small-cap stocks fell into bear market status earlier in the year.

Stock market crashes like these happen periodically and for various reasons. sometimes the changes are related to excessive market valuations after a prolonged bull market. in other cases, they may be due to external events that overwhelm other fundamental factors that traditionally drive stock market performance.

“The market downturn this year can be attributed to the rising level of uncertainty for investors,” says Rob Haworth, senior director of investment strategy at U.S. bank. Three key events contributed to the environment, including persistently high inflation, a dramatic change in monetary policy by the Federal Reserve, and the economic fallout from Russia’s invasion of Ukraine.

Stocks rallied in July after hitting their June lows, but fell back once more from August as investor fears of a recession mounted. After briefly exiting “bear market” territory, the S&P 500 and Nasdaq Composite Indices fell back to that level, reaching their lowest points of the year in September.

market volatility also remains high. In the first two trading days of October, the Dow Jones Industrial Average gained 1,591 points, which equates to an increase in value of more than 5%. three days later, the index was down more than 1,000 points again, demonstrating the fragility of stock market rallies in the current environment.

track past market declines

Explanations for the most severe market downturns are often easier to find after the fact. consider some recent examples.

In early 2000, an extended bear market began and persisted until early 2003, on the heels of a long-running bull market. The most notable driver of this significant setback for stock prices was the bursting of a stock market “bubble” in the prices of tech stocks, particularly some early-stage dot-coms, as investors left of paying higher prices by companies with little or no profit. .

“Please note that we are likely to experience market ups and downs regardless and, over time, markets have shown resilience.”

– rob haworth, senior investment strategist, usa uu. bank asset management

The bear market from 2007 to 2009 was fueled in large part by a collapse in home prices. too many homeowners were highly leveraged and unable to keep the mortgages they took out. This easy credit environment created problems throughout the financial system that required significant government intervention.

In February and March 2020, investors were just beginning to get acquainted with the reality of the covid-19 pandemic. Concerns about the unknown ramifications for the economy of social distancing and travel restrictions caused investors to temporarily lose confidence in stocks. that recession was short-lived, and those who remained invested in stocks prospered through much of 2020 and throughout 2021.

“In today’s market, we saw a massive shift in sentiment,” says Haworth. the persistent nature of a high inflation rate appears to be a key cause of investor anxiety. Rising inflation is the result of demand for goods and services outstripping supply. Haworth points out that despite dramatic moves by the Federal Reserve (Fed) to facilitate economic growth, higher inflation remains. “If inflation stays elevated, the Fed is going to have to take more aggressive action to try to slow down the economy,” Haworth says. “Market setbacks in late August and September reflect that the Fed may have to raise the Fed Funds rate above the 4% level and keep it there well into 2023.”

the Fed’s focus on slower economic growth

The economy, as measured by gross domestic product (GDP), grew by 5.9% in 2021 (the fastest annual growth rate since 1984). The Federal Reserve’s monetary policy change is aimed at slowing the economy as a way to blunt the threat of inflation, but without pushing the nation into a recession. there was an economic slowdown in the first half of 2022. annualized gdp decreased by -1.6% in the first quarter and -0.6% in the second quarter of the year.1 despite the negative reading and efforts of the fed to moderate economic growth, employment growth was impressive during the first nine months of 2022, as non-farm payrolls increased by an average of 420,000 jobs per month.2

“despite two quarters of negative gdp growth, there are no signs the labor market is under pressure,” says haworth. “gdp data looks slightly positive or negative so could be pushed in either direction.” The main threat to the economy may be the Fed’s desire to beat the threat of inflation. Despite raising the fed funds rate by 3.0% to 3.25% so far in 2022, inflation figures remain high. Through August, the consumer price index, the benchmark measure for broad inflation, rose 8.3% from the previous 12 months. while it was lower than the 9.1% change peak reached in June, markets seemed concerned that the drop might not be more significant. While Haworth expects significantly more activity from federal rate hikes, it is notable that economic growth is not collapsing and the labor market remains strong.

stocks remain susceptible

Challenges such as the tightening of Federal Reserve money and rising inflation have kept the stock market in a volatile state for most of 2022. An additional concern going forward will be market fundamentals, such as corporate income and profits. “An important question now is whether higher wage costs are hurting companies’ bottom lines,” Haworth says. “To date, companies have been able to maintain profit levels because they were able to drive price increases,” Haworth says. “Can you keep doing that? It will tell us a lot about how earnings hold up throughout the year.”

eric freedman, chief investment officer of u.s. bank, says it’s important to keep a proper perspective on the environment. he warns that markets are likely to remain volatile. however, he urges investors to keep a long-term perspective. “Timing the markets and trying to be precise about when to enter and when to exit is a challenge,” Freedman says. “the markets will do things at exactly the opposite time from what you expect.”

key factors to consider

what are the critical factors at play that could affect the timing of a stock market rally?

• inflation and federal policy responses to it. “concerns about inflation are still at the top of the list,” freedman says. “Inflation is proving to be more persistent than initially anticipated.” In particular, Fed Chairman Jerome Powell has proclaimed that “reducing inflation is likely to require a sustained period of below-trend (economic) growth.” % target range. freedman believes that inflation could decline in the coming months, although a number of variables may affect the trend. Along with significant increases in the fed funds rate so far this year, the Fed has ended its monthly purchases of $120 billion in Treasury and mortgage-backed bonds that began in early 2020. The strategy that was designed to help maintain liquidity in the market and keep interest rates lower. it is now reducing its existing bond holdings. Ongoing Federal Reserve monetary tightening is pushing up yields on Treasuries and mortgage-backed securities. in fact, 10-year bond yields in the us the treasury briefly topped the 4% level in late september, the first time it has hit that mark since 2010 federal continues to raise rates. more significantly,” says tom hainlin, national investment strategist, u.s. bank. “If this further slows the economy and reduces corporate profits, investors may not be willing to pay such high prices for the stock.” She points out that the Fed is trying to thread a needle by slowing the economy without sending it into a recession. “But at this point, even a modest recession can be considered a success by the Fed,” says Hainlin.
• consumer and business spending trends. spending of the consumer is an important factor of economic growth. “Consumer balance sheets remain strong,” Haworth says. “Asset wealth is down a bit in recent months due to the stock market crash, but credit balances remain low relative to income,” Haworth says. business spending on new plant and equipment is also a factor to consider. “If consumer and business spending slows, that could lead to a further revision of stock prices,” Hainlin says.
• covid-19. the The virus that was so disruptive in recent years has become more of a part of our daily lives, but it is not yet a thing of the past. “We reopen more, with people returning to offices and more activity occurring, supporting economic growth,” Haworth says. Its biggest impact may be the slowdown in production in China due to the frequent closure of cities in that country as part of its “zero covid” policy. such closures can be detrimental to the global supply chain for certain products.
• the impact of the war between russia and ukraine. one of the most unpredictable variables is war in eastern europe with economic sanctions acting as the main weapon used by western nations opposing russia’s actions, it remains to be seen what the long-term global impact could be term. Higher commodity prices are another consequence of the war, which could also slow global economic growth and keep prices high, forcing more significant rate hikes. much may depend on how long hostilities persist and whether the conflict spreads to other countries. the United States. The economy seems less susceptible to negative ramifications than is the case in Europe, where many countries rely heavily on Russian energy resources.

keep a proper perspective

Frequent market corrections are a normal event. “Keep in mind that we are likely to experience market ups and downs regardless, and over time markets have shown the ability to bounce back,” Haworth says. Market volatility can be expected to persist given uncertainty over the direction of inflation, the extent of federal interest rate hikes, the pace of earnings growth, and the implications of the ongoing conflict between Russia and Ukraine, among Another questions. “While we may see a more favorable environment in the future, the market still faces many challenges given the current economic fundamentals,” says Haworth.

freedman emphasizes that having a plan in place that helps inform your investment decision-making is critical, particularly in times like these. “That’s the basis of investing,” Freedman says.

Consult your wealth planning professional to ensure you are comfortable with your current investments and that your portfolio is structured in a manner consistent with your long-term financial goals.

diversification and asset allocation do not guarantee returns or protect against loss.