Current Market Observations

by William Henderson, Chief Investment Officer
Major U.S. stock market indexes gave back some of their March gains as inflation pressures persisted, the Russia / Ukraine war dragged on and comments from the Fed about balance sheet reduction weighed on investors’ concerns. Conversely, pockets of good news persisted, oil prices, for example, again fell further and strength in the labor markets continued. For the week ending April 8, 2022, the Dow Jones Industrial Average fell -0.3%, the S&P 500 Index fell -1.3% and the NASDAQ, an index representing growth stocks which are more sensitive to higher interest rates, fell by -3.9%. Overall weakness in the equity market continues and year–to-date returns remain solidly negative. Year-to-date, the Dow Jones Industrial Average is down -3.9%, the S&P 500 Index is down -5.5% and the NASDAQ is down -12.2%. News from the Fed about continued rate hikes and balance sheet reduction weighed on bond markets and the 10-Year U.S. Treasury bond rose an additional 37 basis points to 2.76%. After starting the year yielding 1.51%, the 10-Year Treasury is up a stunning 125 basis points so far in 2022 and at its highest level since March 2019. (See the chart below from Valley National Financial Advisors and YCharts showing the 10-year U.S. Treasury rate).   

While trying not to seem repetitive, the underlying fundamental strength of the U.S. economy (labor markets, consumer heath, bank balance sheets, corporate earnings) does not seem to counter the headwinds of higher inflation and higher interest rates. This week we will get some additional information around inflation as the monthly and yearly U.S. Consumer Price Index change for March 2022 is released on Wednesday. The previous YoY (Year Over Year) reading was +7.87% and a level at or higher will certainly give the Fed all the air cover it needs to aggressively raise interest rates further. Friday begins the release of First Quarter earnings and banks will be first to report. Expectations for the first quarter are low compared with previous quarters. According to FactSet, analysts surveyed expect EPS (Earnings Per Share) increases of S&P 500 companies to average only +4.5%; which would be the first time in two years that earnings growth did not top +10%.

Turning to the Russia / Ukraine war and market implications, there was a small piece of information that may help explain why the massive move upward in the Russian Ruble. China and Russia announced commodities trading between the two countries using a Yuan / Ruble currency conversion trade. Traditionally, commodities such as oil, that trade on international markets must be traded in U.S. Dollars only. Information around the China / Russia trade has helped to buoy the Ruble bringing the level back to pre-invasion levels. (See the chart below from Bloomberg).   

Trading outside of the U.S. Dollar has allowed the Ruble to rebound and shows how countries outside of NATO, China in this case, are helping Russia deal with crippling economic sanctions imposed by Western nations. Sadly, this gives us no reason to expect the Russia / Ukraine war to end anytime soon. 

Next week (April 18) brings the due date for Americans to file their 2021 tax returns. Most Americans are expecting refunds on their tax filings. A piece by Goldman Sachs noted that expectations are for refunds to exceed recent years due to the expanded tax credit and other fiscal transfers (See the chart below from the Department of the Treasury and Goldman Sachs).

Additional cash into consumers’ pockets over the coming few weeks will pile onto the cash they have already accumulated over the pandemic from increased savings, reduced spending, and government stimulus payments. In the face of rising costs of many consumer goods and services, this additional cash will give consumers a needed cash cushion. Lastly, remember that more than 60% of the U.S. economy is consumer driven and a healthy consumer flush with cash and employed always leads to continued economic growth. 

The Numbers & “Heat Map”

THE NUMBERS
The Sources: Index Returns: Morningstar Workstation. Past performance is no guarantee of future results. Indices are unmanaged and cannot be invested into directly. Three, five and ten year returns are annualized. Interest Rates: Federal Reserve, Mortgage Bankers Association.

MARKET HEAT MAP
The health of the economy is a key driver of long-term returns in the stock market. Below, we assess the key economic conditions that we believe are of particular importance to investors.

US ECONOMY

CONSUMER HEALTH

POSITIVE

U.S. Real GDP growth for Q4 2021 increased at an annual rate of 7.0% compared to 2.3% in Q3 (according to second estimate). The acceleration was driven primarily by private inventory investment. Real GDP increased by 5.7% in 2021 versus a decrease of -3.4% in 2020. For Q1 2022, estimate show GDP growing at 1.7% at an annual rate.

CORPORATE EARNINGS

NEUTRAL

For Q1 2022 the estimated earnings growth rate is 4.5% – the lowest since Q4 2020 (3.8%). This estimate was revised downward from the previous forecast of 5.7% in December 2021. So far, 14 out of 20 companies reported a positive EPS surprise and 16 beat revenue expectations. Sixty- seven S&P500 companies issued negative EPS guidance and 29 companies issue positive EPS guidance.

EMPLOYMENT

POSITIVE

Total nonfarm payroll employment rose by 431,000 in March, and the unemployment rate edged down from 3.8% to 3.6%. Job growth was widespread, led by gains in leisure and hospitality, professional and business services, retail trade, and manufacturing.

INFLATION

NEGATIVE

CPI rose 7.9% year-over-year in February 2022, the highest increase since 1982, driven by the global supply chain backlog and continued consumer pent up demand. Inflation concerns are clearly impacting the markets, the FED and consumer behavior. CPI for March will be released on April 12th.

FISCAL POLICY

NEUTRAL

Congress passed a $1.5 trillion spending package expected to be signed into law next week. Republicans rejected any additional COVID-19 related aid, which was removed from the bill. $13.6 billion aid package to help Ukraine saw strong bipartisan support. The Violence Against Women Act was reauthorized and Democrats pushed for a 6.7% increase in domestic spending.

MONETARY POLICY

NEUTRAL

The Fed raised rates by the expected 25 bps last week and Jay Powell projected a clear path for 2022 with as many as six additional rate hikes bringing short-term rates to 1.75-2.00% by year end 2022. Reduction of the Fed’s balance sheet was not mentioned.

GLOBAL CONSIDERATIONS

GEOPOLITICAL RISKS

NEGATIVE

According to credit ratings agency S&P, Russia has defaulted on its foreign debt due on April 4th by offering to make payments in rubles and not dollars. Russia has 30 days to make a payment in dollars however, it is unlikely this will happen due to the current sanctions and restrictions on access to capital imposed by Western countries against Russia.

ECONOMIC RISKS

NEUTRAL

Supply chain disruptions in the U.S. are waning but the rising cost of oil due to the Russian- Ukraine war is likely to cause additional inflationary pressures not only on gasoline prices but also on many other goods and services.

The “Heat Map” is a subjective analysis based upon metrics that VNFA’s investment committee believes are important to financial markets and the economy. The “Heat Map” is designed for informational purposes only and is not intended for use as a basis for investment decisions.

“Your Financial Choices”

Tune in Wednesday, 6 PM for “Your Financial Choices” with Laurie Siebert on WDIY 88.1FM. Laurie will discuss: Tax Extensions, Estimates and 2022 Planning

Laurie can address questions on the air that are submitted either in advance or during the live show via yourfinancialchoices.com. Recordings of past shows are available to listen or download at both yourfinancialchoices.com and wdiy.org.

VNFA NEWS

We Are Hiring!
Team VNFA seeks a motivated, self-starting, passionate leader to join our Bethlehem Office in the role of Client Service Manager. The Client Service Manager will oversee client-facing support staff and be responsible for procedures contributing to the client experience. READ MORE / APPLY ONLINE

2022 Volunteer Challenge Project
Team VNFA has been working hard on gathering the items we will need to complete our 2022 Volunteer Challenge Project with Community Bike Works

We will be restoring their garden to be used as part of their youth programing this summer.  If you would like to help, our team could use donations of gift cards to Home Depot or Lowe’s, bags of organic potting soil, paint brushes, marigolds or sunflowers, large flowerpots, or berry bushes. 

Please email us at FromOurTeam@valleynationalgroup.com for more information on ways that you can support this great community project.

Tax Corner

Our Tax Department has begun filing tax return extensions. If we did not receive all of your information and supporting documents by April 1, we are likely going to file an extension on your return. Please refer to the following guidance about preparation of an extension:

  • Still give us whatever information you have as soon as possible or as soon as it becomes available.
  • Expect to pay an anticipated taxes owed by the original filing date in April. We will determine if you will have a balance due or if you ca expect a refund based on the available tax information you submit.
  • If you are required to make quarterly estimated tax payments, individual first quarter estimated tax payments are due April 15.
  • If you are anticipating a large refund, we will try to get your extended return completed as soon as possible once all tax information is available.

Contact our team at tax@valleynatinalgroup.com or 610-868-9000 if you need more information.

Quarterly Commentary: Q1 2022

by William Henderson, Chief Investment Officer
Volatility and uncertainty are the best two words to succinctly describe the first quarter of 2022 and, as we have always said, both of those are bad for markets. Markets like boring and we did not get a lot of boring in the first quarter of 2022. Instead, we had continuing high inflation data, Russia starting a war with Ukraine, and the first Fed rate hike since December 2018. Over the course of the quarter, we saw violent swings in the stock market and huge intra-day moves in prices, which were largely attributed to uncertainty around the Russia/Ukraine war. War in that region severely impacted prices for certain commodities and strained an already stressed market still suffering from global supply chain issues due to the pandemic. Ukraine and Russia are large producers of oil, natural gas, wheat, and certain rare early elements such as palladium which is used to make catalytic converters for cars and trucks. Additional shortages in these critical commodities immediately spiked higher prices across the board and sent overall inflation numbers higher. 

Quarter-end returns do not accurately reflect the markets’ violent swings during the quarter. Looking at the chart below from Valley National Financial Advisors and YCharts, we see the quarter-end numbers for each major market index.   

While the chart shows the NASDAQ at -9.1% for the quarter-end March 31, 2022, at the bottom of the quarter, the NASDAQ was down over -20%. The chart reflects the huge move upward during the month of March as the risk-off trade faded and investors moved again to buy equities. For the quarter-end March 31, 2022, the Dow Jones Industrial Average fell -4.75%, the S&P 500 Index fell -4.95% and the NASDAQ fell -9.10%. Fixed income investors fared no better as the Barclays Bloomberg U.S. Aggregate Bond Index (a widely used measure of fixed income investment performance) fell -6.12% in the first quarter. The benchmark 10-Year U.S. Treasury bond started the year at 1.52% and ended the quarter 80 basis point higher at 2.32%. 

Around mid-March, the markets forged a dramatic turnaround as investors believed equities fell enough now warranting buying again. In our opinion, the markets were simply focusing on the strength and solid fundamentals underlying the U.S. economy: corporate profitability, bank health, the strong labor market, and consumers’ overall financial health. While these factors alone were not enough cure all the world’s ailments, specifically the Russia/Ukraine war, they were enough to pull investors back to U.S. equities. 

Corporate profitability, while slowing a bit so far this year, hit a record in 2021, and is expected to continue its upward trend in 2022. For the full year 2021, pre-tax profits rose 25% to roughly $2.81 trillion, which more than outpaced the 7% rise in consumer prices over the same stretch; proving that companies were able to pass on to their customers much of the underlying spike in materials and labor costs.  (See the chart below from the U.S. Commerce Department showing U.S. pre-tax corporate profits 2007-2021.)   

The labor market continues to be strong with new jobs being created each month. The unemployment rate fell to 3.6% in March from 3.8% a month earlier, quickly approaching the February 2020 pre-pandemic rate of 3.5%, a 50-year low. While low, the jobless rate helps to boost wages, higher inflation continues to impact workers pockets as prices for basic goods like gasoline and food creep higher each month. (See the chart below from the Federal Reserve Bank of St. Louis showing the unemployment rate since 1950). 

As mentioned, corporate profitability shows that companies have been able to pass on inflationary prices of materials to the consumer. Further, more people are working as evidenced by the unemployment rate. Certainly, these two factors coupled with global supply chain issues and commodity shortages exacerbated by the Russia/Ukraine war have impact inflation beyond the Fed’s 2.5% target rate. Hence, Fed Chairman Jay Powell’s response by raising interest rates at the March 2022 FOMC meeting. Given where inflation and employment levels are, we expect, along with all Wall Street economists, more rate hikes to follow in 2022. For a visual of how dramatic the inflation spike is, see the chart below from the Federal Reserve Bank of St. Louis showing the Median Consumer Price Index (common gauge of inflation) 1985-March 2022.   

There’s an old Wall Street maxim that states: “higher prices cure higher prices.” Essentially, stating that as prices increase, fewer buyers will emerge and thereby decreasing demand and high prices. In the current case, we have very healthy consumers with a lot of cash in their coffers accumulated over the past two years as spending on leisure activities was practically halted yet cash continued to build up from savings and government stimulus funds widely distributed to Americans. M2 – the measure of the total U.S. Money Supply stands at a record $21.8 Trillion, giving consumers a lot of cash to spend – eventually. (See the chart below from Valley National Financial Advisors and YCharts showing M2). 

“Eventually” is the key word here. The second quarter of 2022 brings Spring and the widespread lifting of pandemic-related lockdowns. With the grand reopening of the U.S. economy, consumers will be released to spend and enjoy travel, leisure, and other expensive activities – all at the newest, latest, and greatest “higher prices.” “High prices cure high prices.” 

While the pandemic in the United States seems well behind us, other parts of the world are still suffering its devastating effects. For example, China continues to impart severe lockdowns on whole regions in an attempt to quell the spread of COVID-19. Further, the Russia/Ukraine war is far from over resulting in continued disruptions in key commodities such as oil and wheat, which are dramatically impacting prices in the EU region and beyond. The U.S. is not immune to the pandemic or inflation and the Fed continues to watch both reminding us along with way that their dual mandate of full employment and 2.5% annual inflation are front and center for Powell. While the first quarter of 2022 produced negative returns for stocks and bonds (a very rare event), we remain positive on the economy and the markets for the remainder of the year with a word of caution for investors. Volatility will be present based on continuing unrest due to geopolitical events and continued pressure due to inflation, which will certainly shape the direction and severity of interest rate hikes by the Fed. 

The Numbers & “Heat Map”

THE NUMBERS
The Sources: Index Returns: Morningstar Workstation. Past performance is no guarantee of future results. Indices are unmanaged and cannot be invested into directly. Three, five and ten year returns are annualized. Interest Rates: Federal Reserve, Mortgage Bankers Association.

MARKET HEAT MAP
The health of the economy is a key driver of long-term returns in the stock market. Below, we assess the key economic conditions that we believe are of particular importance to investors.

US ECONOMY

CONSUMER HEALTH

POSITIVE

U.S. Real GDP growth for Q4 2021 increased at an annual rate of 7.0% compared to 2.3% in Q3 (according to second estimate). The acceleration was driven primarily by private inventory investment. Real GDP increased by 5.7% in 2021 versus a decrease of -3.4% in 2020. For Q1 2022, estimate show GDP growing at 1.7% at an annual rate.

CORPORATE EARNINGS

NEUTRAL

For Q1 2022 the estimated earnings growth rate is 4.8% – the lowest since Q4 2020 (3.8%). This estimate was revised downward from the previous forecast of 5.7% in December 2021. So far, 12 out of 17 companies reported a positive EPS surprise and 14 beat revenue expectations. Sixty- seven S&P500 companies issued negative EPS guidance and 29 companies issue positive EPS guidance.

EMPLOYMENT

POSITIVE

Total nonfarm payroll employment rose by 431,000 in March, and the unemployment rate edged down from 3.8% to 3.6%. Job growth was widespread, led by gains in leisure and hospitality, professional and business services, retail trade, and manufacturing.

INFLATION

NEGATIVE

CPI rose 7.9% year-over-year in February 2022, the highest increase since 1982, driven by the global supply chain backlog and continued consumer pent up demand. Inflation concerns are clearly impacting the markets, the FED and consumer behavior. CPI for March will be released on April 12th.

FISCAL POLICY

NEUTRAL

Congress passed a $1.5 trillion spending package expected to be signed into law next week. Republicans rejected any additional COVID-19 related aid, which was removed from the bill. $13.6 billion aid package to help Ukraine saw strong bipartisan support. The Violence Against Women Act was reauthorized and Democrats pushed for a 6.7% increase in domestic spending.

MONETARY POLICY

NEUTRAL

The Fed raised rates by the expected 25 bps last week and Jay Powell projected a clear path for 2022 with as many as six additional rate hikes bringing short-term rates to 1.75-2.00% by year end 2022. Reduction of the Fed’s balance sheet was not mentioned.

GLOBAL CONSIDERATIONS

GEOPOLITICAL RISKS

NEGATIVE

The conflict between Russia and Ukraine keeps worsening as negotiations are not leading to any results and attacks by Russia do not cease. Russia has been able to avoid defaulting on their debt and recently made a $447 million payment however, experts think a default on the next payment of $2.2 billion due April 4th is likely.

ECONOMIC RISKS

NEUTRAL

Supply chain disruptions in the U.S. are waning but the rising cost of oil due to the Russian-Ukraine war is likely to cause additional inflationary pressures not only on gasoline prices but also on many other goods and services.

The “Heat Map” is a subjective analysis based upon metrics that VNFA’s investment committee believes are important to financial markets and the economy. The “Heat Map” is designed for informational purposes only and is not intended for use as a basis for investment decisions.

“Your Financial Choices”

Tune in Wednesday, 6 PM for “Your Financial Choices” with Laurie Siebert on WDIY 88.1FM. Laurie will discuss: A First Quarter Market Update

Laurie can address questions on the air that are submitted either in advance or during the live show via yourfinancialchoices.com. Recordings of past shows are available to listen or download at both yourfinancialchoices.com and wdiy.org.