Our view after the selloff

What happened

Global markets have been under pressure ever since last Friday’s hotter-than-expected inflation report, which printed at a 41-year high. This report set off a chain reaction. Short- and intermediate-term yields rocketed higher as the market began pricing in the likelihood that the Federal Reserve (Fed) will need to become even more aggressive in raising rates to combat inflation.

Investors fear that as the Fed tightens policy to tame inflation, recession risks will rise and hurt corporate profits and stock prices. Consequently, the S&P 500 has officially entered bear market territory and is off 22% from its recent high. A bear market is commonly, though arbitrarily, defined as a market decline of 20% from a peak.

Our take

This is one of the most complicated backdrops in years. The range of potential outcomes, as often discussed in these notes, is unusually wide. Additionally, the Fed has a very challenging balancing act, and the market sensitivity to perceived changes in monetary policy and inflation is elevated.

Indeed, in just four days, the S&P 500 dropped 9.9%. For perspective, since the end of the global financial crisis, we have only seen such a sharp market drop (>9% over four days) three other times. This included the August 2011 selloff around the U.S. debt downgrade, the August 2015 decline around China’s growth concerns, and the pandemic-induced selloff in early 2020. Each of these periods included a large amount of investor angst. In each period, markets remained very volatile and, in some cases, saw more short-term downside.  However, following each of these instances, stocks were up double-digits a year later.

The other thing that stood out to us as we surveyed the damage is how broad based and indiscriminate the selling has been. Currently, only 4% of S&P 500 stocks are above their 50-day moving average. This is only the ninth time we have seen this metric below 5% since 1990 (removing clusters). Following past depressed readings, the S&P 500 was only up 38% of the time a month later; however, a year later, stocks were up every time with an average gain of 23%

To read the publication in its entirety, please click the button below "Download PDF".