The benchmark S&P 500 posted a modest loss of 4.9% during the 1st quarter, the first negative quarterly return in over two years. With the S&P 500 having risen over 100% since March, 2020, it might be understandable for stocks to take something of a breather. History illustrates this is often exactly what happens during the third year of a bull market cycle. More dispersion has emerged in earnings results at the company level, but aggregate corporate earnings topped analyst forecasts by 6% and rose nearly 30% year-over-year. That dispersion is quite typical as a market cycle reaches a more mature stage and the proverbial rising tide no longer lifts all boats. Companies that topped expectations tended to see their share prices rewarded, and companies that disappointed experienced the opposite reaction. Bottlenecks continue to hamper supply chains, and the resulting scarcity of goods has played a major role in pushing inflation to elevated levels.
The U.S. economy grew a robust 6.9% during the 4th quarter but looks to have softened to start the new year. In spite of less impressive economic growth, the labor market has continued its strong recovery to the extent the unemployment rate has already fallen below 4%, months earlier than anticipated. Employment growth and the fading impact of Covid strains should help push the economy toward the 3% pace anticipated over the rest of 2022 by consensus estimate. Such a pace would be well above that seen in the pre-pandemic decade. As widely expected, the Federal Reserve has begun to raise their policy target rate to remove accommodation necessary during a more stressed economic environment. Normalizing central bank policy should also serve to keep longer-term inflationary pressures under control. Interest rates across all maturities have risen, and this dynamic is to be expected while inflation runs above the historical norm. By those same historical standards, interest rates remain quite low, and below levels thought to slow economic activity to a meaningful extent.
Performance varied widely across economic sectors of the stock market during the 1st quarter. Energy outperformed all other sectors by a broad margin, appreciating almost 38% with the tailwinds of higher oil and natural gas prices resulting from limited available supplies. Financials performed well in relative terms, as higher interest rates enable banks to earn more on their investments than they are paying on deposits and other fixed liabilities. Industrials and Materials often benefit from higher commodity costs, and that relationship likely helped the two sectors perform well in relative terms during the quarter. Investors tend to favor Consumer Staples stocks during times of uncertainty, and relative performance reflected that preference. Consumer Discretionary stocks suffered as investors often feel uncertainty will limit discretionary spending. Investors showed Health Care stocks to be another favorite with stable earnings in uncertain times. Surprisingly, Real Estate lagged the S&P 500. Investors typically see landlords’ ability to raise rents during inflationary periods as a positive. Technology lagged the overall market, as well, but a sector largely paying lower dividends yield than the overall market often lags when interest rates are rising. Communication Services was the bottom performer among sectors, as several mega-cap stocks weighted heavily on returns. The upcoming earnings season will likely drive 2nd quarter returns.
As the saying goes, history doesn’t repeat itself, but it often rhymes. The average bull market runs about 4.5 years, but more recent bull markets in the 1990s and 2010s have run longer. While similar in many respects, each bull market is as unique as a fingerprint. Even within a bull market cycle, stocks will pause to reset and recalibrate expectations. Prices will pull back at times, even to and thru the 10% mark that delineates a correction. Different sectors of the market will lead at different stages of the cycle, and, similarly, leadership at the stock level within sectors will rotate. It’s often said that the only thing certain is uncertainty. Worrisome situations will present themselves during the entire run of a bull market, and traders will fret about the near-term impact of those situations. Investors, however, have a plan and an eye on the horizon in the distance. That plan will keep an appropriate portion of assets invested in stocks to ride out inevitable turbulence. With history as a guide, that ride has been fruitful for investors.