Hope all is well. Last week started with a 700-point drop in the Dow, bringing about the latest round of “market sell-off” headlines. By Tuesday the headlines were gone. By last Monday’s close, the S&P 500 had dropped 3% in five days, a decline that was erased as stocks had again touched all-time highs by Friday. Market pullbacks have been infrequent and short-lived of late as strong economic growth, positive investor sentiment, and extreme amounts of Fed liquidity have combined to produce elevated gains with limited drawdowns along the way. I have broken down this week’s news using lyrics from the Fleetwood Mac classic Landslide.
Can I sail through the changin’ ocean tides?
Rising uncertainties related to the ongoing pandemic, a high bar for growth expectations, and the expectation for an upcoming shift in Fed stimulus raise the odds that a more noticeable stock-market pullback will emerge this year. Slight changes in Covid spread, messaging from the Fed or changes in economic data have the ability to cause quick moves in the stock market. Don’t try to predict the precise arrival of a pullback stay invested. Instead recognize the potential catalysts and set realistic expectations for market volatility, which can better prepare and position you to react (but not overreact) to larger market swings.
I’ve been afraid of changin’ ’cause I’ve built my life around you
The market gains for much of the past decade have been fueled and built around the Federal Reserve’s accommodative policy. The increased spread of the delta variant captured the spotlight last week was highlighted as the cause of Monday’s drop. However, I suspect inflation and the implications for Fed policy will take center stage over the balance of the year. The lack of any recent meaningful market corrections in large part to the perceived safety net of extraordinary Fed stimulus that has been in place over the past 13 months. With the Fed likely to soon begin discussing plans for tapering its bond purchases, the stock-market dips could have slightly more teeth ahead. That said, the real bite will come when Fed policy moves from loose to tight amid sustained rate hikes, the first of which I doubt will come before 2023.
Time makes you bolder
Expect the expansion to be sustained for some time to come, but 2021’s expected GDP growth of nearly 7% is likely to be the strongest year in this expansion, with the pace of growth moderating as the economy matures. Looking back at the last three expansions, the year of peak growth had an average stock-market return of 11%. The following year saw an average market gain of 5%, with an average of three 5% pullbacks along the way. At the moment, markets continue to be positive, but more volatile, as the economy passes peak growth.
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