Investment Strategy

The Fed seems clear: Control inflation at the expense of growth

Following the largest rate hike since 1994, we share five observations on a critical week for markets.

Our Top Market Takeaways for June 17, 2022

Market update

Highway to the danger zone

This week, the Federal Reserve raised policy rates by 75 basis points (bps), which it hasn’t done since 1994.

The Fed’s message seems clear: It is solely focused on containing inflation, and it is willing to harm growth to do it. Many investors are now assuming that a recession is necessary to cure the inflation problem. It shouldn’t be surprising, then, that global assets have sold off aggressively since last Friday.

U.S. stocks are down almost 8% since U.S. headline consumer price data was released last Friday, which has wiped out all the gains made since the end of 2020. Bond yields across the curve have soared. U.S. 10-year yields started the week at 3% and reached 3.5% for the first time since 2011 before coming back down to ~3.2%. The market now expects the federal funds rate to peak at almost 4% by the spring of next year.

What to make of it all? Our experts hosted a webcast yesterday in which they discussed the Fed meeting along with several other dynamics driving global markets, and offered several steps to help maintain discipline through discomfort. We encourage watching the replay and exploring our Mid-Year Outlook.

In the rest of today’s note, we offer five observations that illustrate what has been a critical week for markets.

1. The Fed is willing to harm growth to control inflation. It expects policy rates to be more restrictive, and it expects below-trend growth. On the labor market, the Fed’s 2024 projection for the unemployment rate is 4.1% versus 3.6% today, which, assuming a constant labor force, implies about 800,000 fewer people on payrolls. This projection is buzzing the tower of recession. Importantly, economic data and corporate anecdotes from this week suggested an environment of already weakening activity. Retail sales for the control group came in effectively flat in the month of May, while housing starts collapsed by over 14%. Pending home sales in California dropped over 30% in May. Companies such as Tesla, Coinbase, Redfin, Compass Real Estate, Warner Brothers and Spotify have already announced layoffs or hiring freezes this week.

This chart shows the civilian unemployment rate (16yr+) from January 2019 until May 2022, and expectations for 2024. The first data point came in at 4% and gradually declined to 3.5% by February 2020. From there, it skyrocketed to a multi-year high before coming back down to 3.6% by May 2022. The Fed expects the unemployment rate to increase to 4.1% by 2024, which implies 800,000 fewer jobs in the labor market.
2. Prices at the pump matter. Markets were expecting a 50 bps move until a suspiciously well-sourced Wall Street Journal article published on Monday strongly hinted that it would be 75 bps. Why the switch? Fed Chair Powell suggested that the most recent CPI data, and perhaps more importantly, the University of Michigan inflation expectations survey from last Friday, forced the Fed into a more aggressive action. The problem is that both data points were heavily influenced by higher oil prices. Gasoline accounted for 20% of the monthly change in the CPI Index, and the UMich survey has an uncanny correlation with prices at the pump. Lower oil prices may be the quickest way to fewer rate hikes, while further gains could mean a more aggressive Fed.
This chart shows the University of Michigan Index of Consumer Expectations for prices in the next 5-10 years (using the 3-month moving average data points to uncover the trend, since the data itself is volatile), and the U.S. average gasoline price from 2008 to 2022. The index began at 3 and rose to 3.3 by June 2008. It then fell to 2.8 by January 2009. It hovered around here until the middle of 2014, when it began a decline. It fell to a series low of 2.3 in December 2019. It then rose steadily to reach 3.1 by May 2022. Meanwhile, the U.S. average gasoline price in $/gallon began at 3.2 and rose to 4.4 by June 2008. It then fell dramatically to 1.9 in December 2008. It then rose to 4.1 by April 2011 and 3.9 by May 2014. It fell here to 2 in February 2016 then rallied to 3.2 in May 2018. It dipped to 2.2 in April 2020 and soared to a series high of 5.1 in May 2022.
3. Tightening is a global phenomenon. Just this week, central banks in the United Kingdom, Switzerland, Taiwan, Brazil and Hungary raised interest rates. The European Central Bank seems set to raise rates later this summer, but its plans are being complicated by emerging stress in peripheral member states (namely Italy). There are even growing questions about the sustainability of the Bank of Japan’s yield curve control program. During the last cycle, investors could count on global central banks to pin policy rates at ultra-low levels, which reduced volatility across asset classes. Now that central banks are being forced to respond to inflation, volatility seems set to remain elevated at levels more akin to the early 2000s than the mid-2010s
This chart shows the implied equity volatility (shown using the VIX) and implied bond volatility (shown using the MOVE Index) from 2000 to 2022. The VIX began around 20 and rose to 37 by September 2002. It then fell to 10 by February 2007. It skyrocketed to 80 in October 2008 before falling to 9 in January 2018. It rose to 66 in March 2020, then fell to 28 in June 2022. Meanwhile, the MOVE Index began at 101 and rose to 165 by December 2001. It then fell to 52 in May 2007 before rallying to 265 in October 2008. It fell to 50 by January 2020 and jumped to 138 in March. It dipped then rose again to 111 in May 2022.
4. Stock markets are under pressure. The S&P 500 officially entered bear market territory this week and currently trades about 25% below its all-time high. Only seven stocks in the S&P 500 are within 10% of their 52-week highs, and only 12 of the 47 countries we track have positive performance this year. Within the S&P 500, several sectors are approaching drawdowns that could be described as recessionary. The consumer discretionary sector’s 33% drawdown has erased all gains made during the pandemic era, and is commensurate with that seen during the last four recessions. We probably aren’t there yet, but the equity market is getting closer to reflecting a slowdown in economic growth that would be deeper than we think is likely, given solid corporate and financial sector balance sheets and a resilient, if strained, consumer.
This chart shows the average recession drawdown (including 1990, 2001, 2008 and 2020) for the S&P 500 and the subsequent sectors, as well as the current drawdown for each from January 3 (peak) to June 16. • Tech: Average -42%, Jan-June 2022: -27% • Financials: Average -38%, Jan-June 2022: -20% • Comm Services: Average -37%, Jan-June 2022: -30% • S&P 500: Average -35%, Jan-June 2022: -21% • Industrials: Average -35%, Jan-June 2022: -16% • Cons Disc: Average -33%, Jan-June 2022: -33% • Materials: Average -30%, Jan-June 2022: -13% • Energy: Average -28%, Jan-June 2022: +43% • Health Care: Average -21%, Jan-June 2022: -13% • Utilities: Average -20%, Jan-June 2022: -6% • Cons Staples: Average -19%, Jan-June 2022: -11%
5. Discipline through discomfort. Bear markets can be painful, but enduring them is critical for long-term investment success. The chart below shows S&P 500 drawdowns since 1970. The only periods when the market was down 10% or more one year after stocks had already entered a bear market were from November 1973 to April 1974, June 2001 to June 2002, and July 2008 to September 2008. Similarly, historical forward returns over 3-, 6-, 12- and 24-month periods have been higher if the starting point was during a bear market rather than on any random day. The only good thing about bear markets is that they tend to turn into bull markets (eventually).
This chart shows the S&P 500 drawdowns from all-time highs from January 1990 until June 2022. The first drawdown for the index reached to -36.1% by the end of May 1970. Then it rose back to all-time high levels before it dropped to another -48.2% drawdown by October 1974. From there, it rose to near all-time high levels until it declined to -27.7% by March 1978. Here, it rose to near all-time high levels before dropping back to -27% from highs by August 1982. Then it rose to near all-time high levels, where it maintained range-bound, and then dropped to -33.5% by December 1987. Then it rose back to near all-time high levels before dropping back to around -20% in October 1990. From there, it rose to near all-time high levels and maintained range-bound until it dropped to another -20% drawdown in August 1998. Here, it rose back until it declined to another drawdown of -49% in October 2002. Then it rose to near all-time high levels before dropping back to another drawdown of around -56% in March 2009. From there, the index rose to near all-time high levels once more. Then it dropped to a -20% drawdown in December 2018 before rising once more. Here, the index declined to a drawdown of around -34% in March 2020 before surging to all-time high levels. From there until recently, the index had a drawdown of around -20%. Also, it highlights the three periods where the index lost more than -10% after it entered in a bear market: 1. From November 1973 until April 1974: End of Bretton Woods, oil shock 2. From June 2001 until June 2002: Tech Bubble, 9/11 3. From July until September 2008: Global Financial Crisis

Before we get too despondent, there is still a decent case for a more positive path forward. Discounting could make a major comeback this summer, given elevated retailer inventories, and shipping rates are about to decline on a year-over-year basis. That should help lower goods inflation even further. Wage growth is already slowing, reducing the risk of a wage-price spiral.

The pandemic-era imbalances in the digital economy are unwinding rapidly, all while incomes maintain spending on services. Equity markets are historically oversold and will likely be higher in a year than they are today, even if we haven’t reached the bottom yet.      

In our Mid-Year Outlook, we made three suggestions on how investors can navigate this uncomfortable environment. First, core fixed income yields are implying compelling returns on a go-forward basis, and would likely provide protection if a recession does come to pass. Next, quality equities should outperform as the Fed continues to campaign against inflation. Finally, we think there are compelling opportunities to position for structural change through this cycle and next. Perhaps most importantly, investors should discuss with their J.P. Morgan teams what the outlook might mean in the context of their own plans.

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Our Top Market Takeaways for June 17, 2022.


Standard and Poor’s 500 Index is a capitalization-weighted index of 500 stocks. The index is designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. The index was developed with a base level of 10 for the 1941–43 base period.

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