Financial Market Breakdown – Week of February 14, 2022


Quick Highlights

  • Futures are being pulled lower by international markets as there was no progress on the Russia– Ukraine standoff.
  • However, a Russian invasion could occur at any moment and that is acting as a short-term headwind on markets.
  • There was no notable economic or inflation data overnight.
  • Econ Today: No reports. Fed Speak: Bullard (8:30 a.m. ET).

What’s Happening in the Financial Market?

Stocks remained volatile last week as the major indexes attempted to extend the recent relief rally in the front half of the week before hot inflation data, hawkish Fed speak, and rising geopolitical tensions combined to spark a sharp selloff in the back half of the week. The S&P 500 fell 1.82% on the week and is down 7.29% YTD.
Stocks dropped last week thanks to end-of-week volatility, as a hotter-than-expected CPI report, hawkish commentary from more Fed officials, and ominous headlines about a potential Russia– Ukraine conflict weighed on markets all day Thursday and Friday afternoon. But, while markets were volatile last week amidst seemingly materially negative headlines (inflation at a 40-year high a 50-bps hike in March, and uncertainty about a Russian invasion), the truth is not much changed from a macroeconomic or market outlook standpoint.
Going into last week, the major issue for this market was how quickly the Fed will remove accommodation and the headwind that’s putting on the market multiple, essentially “capping” the S&P 500 at roughly 4,500 from a fundamental standpoint.
And, as we start a new week, the major issue facing this market is still how quickly the Fed will remove accommodation. Despite the volatility last week, the Fed outlook didn’t change that much. CPI was hotter-than-expected, and it increases the chances of a more aggressive Fed, but Bullard’s call for a 50-bps hike in March and 100 bps of tightening by June isn’t consensus and that’s not the most likely outcome. Four rate hikes in 2022 are still the most likely path of rate hikes.
We know the Fed is hawkish and we know they are raising rates. That will be a consistent headwind on markets going forward and for the foreseeable future. But that doesn’t mean a bear market has started. Eventually, the Fed will hike rates too much and kill the recovery but that could still be a year or more away (that’s why we’re watching 10s-2s spread in treasuries).
In the meantime, though, it does leave this market susceptible to other potentially negative headlines, such as the Russia–Ukraine conflict. It’s not that a conflict is automatically a sustainable negative for stocks, but in the context of the Fed being hawkish and looming rate hikes (and with the S&P 500 at the top of its valuation ceiling), that leaves no room for error and any additional negative macro headlines will cause volatility regardless of how fundamentally negative they actually are.
So, what does that mean practically? At this point, we view the S&P 500 under 4,400 as increasingly attractive towards the January lows on a risk/reward basis. Conversely, we view this market above 4,400 in the S&P 500 as unattractive on a risk/reward basis. We continue to think volatility will remain elevated with that trend continuing going forward.

Bottom Line

Markets were hoping for a peak in inflation last week but it didn’t come because the January CPI was hotter than expected, causing a sharp drop in stocks on Thursday. Markets positioned for a “not-as-bad-as- feared” CPI report through Wednesday of last week, but the CPI report didn’t oblige and instead came in at a 40- year high and hotter than expected on both the headline and core readings.
There were some hints that “temporary” pandemic supply chain issues would begin to ease (new car prices were flat month over month following consistent increases in 2021) but the bottom line is inflation is everywhere: Rents were up, apparel costs were up, healthcare costs were up, used car prices were up, etc. It’s obvious that, while the pandemic is contributing to this very high inflation and a fully reopened supply chain will help lower inflation, this is more than just a supply chain problem (which is why markets are likely correctly anticipating the Fed to get aggressive).
At some point, likely in the coming months, we will see a peak in inflation. But even after that peak, expect inflation to stay well above 3% (and remember the Fed’s target is 2%) for the next several months and quarters (if not the remainder of 2022 and beyond, depending on how aggressive the Fed gets). That means that the Fed will stay hawkish, and markets will need to continue to anticipate hawkish headwinds on stocks until inflation gains real downward momentum (which, again, is several months away at the very least).

Near-Term General U.S. Stock Market Outlook

1-month stock market outlook: neutral
Stocks dropped last week thanks to a hotter-than-expected CPI report, hawkish Fed commentary, and concerns about the Russia–Ukraine conflict. Understanding future Fed policy and what that means for economic growth will remain the major focus of markets as we progress through the year, and we should continue to expect elevated volatility.
What’s outperforming:
Value and cyclical sectors have given back some of their early year outperformance in recent weeks, but as long as bond yields begin to rebound, value and cyclicals should outpace growth.
What’s underperforming:
Tech and growth stocks have recovered some ground on value recently but we continue to believe that progress in the economic recovery and subsequently higher interest rates will be a headwind for tech and a rotation from growth to value can be utilized to reduce tech overweights, but not abandon super-cap tech holdings altogether.

By The Numbers



Bane O'Leary