Most Investors Aren’t Prepared for What Comes Next

May 3, 2022  |  Michael Reilly

Thus far 2022 is giving investors very few places to hide…

Friday’s free-fall capped the worst month for the S&P 500 since the COVID crash in 2020 and the NASDAQ just experienced its worst month since 2008. 

There are 10 index charts here – pick one, any one – not one of them is in an uptrend. And every one of these indexes is below their downward sloping moving averages. Technically speaking, these charts look awful!

Even Utilities, which had been a recent standout, is breaking down. And at the sector level, with the exception of the relative safety of Consumer Staples, it’s not any better.

A significant driver of this weakness is the Fed’s decision to remove liquidity from the market and expectations of additional tightening to come. 

So this might be the most important message I have for you today:

We’re in the midst of a major regime change, the likes of which we have not seen in decades – and most investors are not prepared. 

Gone are the days of low rates and easy money (market liquidity), so do yourself a favor – stop investing as though that’s where we still are. 

I’m afraid this is going to be a very expensive lesson for some investors. 

There’s an entire generation of investors out there that have built their whole market perspective of investing during a more than decade-long bull market.

Investor Tip: Markets don’t always go up. Just saying…

When liquidity is removed from the market, prices tend to suffer. And you’re seeing this play out in 2022.

The doubling of Treasury Yields from the 2-Year to the 10-Year – and the sharpest six-month rise in BAA Corporate Yields since the Financial Crisis – is weighing on interest-rate-sensitive areas of the financial markets.

It’s not that stocks can’t do well in a rising interest rate environment – they can, but only when rates rise slowly – and they’re not at the moment…

Take a look at this chart showing Treasury yields of the 2-Year, 5-Year, and 10-Year. It’s not just that rates are rising, it’s the velocity of the change that’s challenging. 

In short, aggressive Fed policy is a headwind for investors. And the Fed has announced they plan to attack 40-year highs in inflation very aggressively.

The futures market now expects 50 basis points of tightening at this week’s FOMC meeting to be followed by another 75 basis points of tightening at the June meeting. 

That’s in addition to the 25 basis point rate hike in March, that would be 150 basis points of tightening in just three meetings. 

And the bond market has been reacting to Fed policy.

Through the first four months of the year, the S&P 500 is down nearly 13%, while the Aggregate Bond Index is down nearly 10%.

Far too many investors have been sold on the idea that the traditional 60/40 split between stocks and bonds will keep them out of harm’s way. Well, you’re getting the double whammy now.

For decades investors could count on the bond market to help smooth out the ride during dips in equity markets – that is, until this year.

Tim Fortier wrote extensively on the subject and you can check it out here

The bottom line is this: 

We’re seeing more and more stocks and indexes resolve lower from distribution patterns and violate critical levels of support. 

As long as we continue to see more stocks making new lows than making new highs, we can’t expect a sustained bull market.

Major regime change means investors need to change their investing playbook if they expect to be successful moving forward.

Until next week, invest wisely, friends…

P.S. For more information on Risk Management or Rowe Wealth’s new Volatility-Resistant Investment Model you can schedule a free 1-hour consultation here.

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