Key Private Bank Investment Brief
The global spread of COVID-19 has caused significant market movements and uncertainty among investors.
Your investment brief houses our experts' latest analysis and strategies for navigating the turbulence created by the outbreak—keeping you updated on our thinking and how these changes might impact your portfolio.
Key Private Bank Investment Briefing Notes
- Monday, 1/10/22
On Thursday, January 13th, at 2:00 pm ET, Key Private Bank will be hosting another National Client Call. Our featured guest will again be Dr. Stephen Thomas, Chief of the Division of Infectious Diseases at SUNY Upstate Medical University.
The KeyBank Investment Center has also launched a new weekly podcast, which can be found here:
Key Takeaways for the Week:
Monetary accommodation will end soon.
- Last week, the Federal Reserve (Fed) released the minutes from its December meeting, which continued their recent pivot towards a more hawkish tone.
- The Fed will soon stop expanding its balance sheet, and shortly after that, will likely begin increasing interest rates. Rate hikes could begin as soon as March 2022.
Inflationary pressures may persist.
- The labor market remains tight due to continued gains in employment. Wages continue to increase.
- The unemployment rate has fallen to 3.9%.
- The Core Consumer Price Index (CPI) is expected to rise about 5.5% year/year in early 2022, which would be the highest level seen in this metric since the late 1980s / early 1990s.
- When the Fed begins to remove monetary accommodation, stocks and other risky assets tend to wobble.
- Under the Fed’s yearly rotation cycle, the composition of the voting members in the Federal Reserve is changing. Some new voting members appear to be more hawkish than their outgoing counterparts.
Corporate earnings should remain strong.
- Evercore ISI survey data indicates that corporations have continued pricing power, which should help support corporate margins and profits.
COVID-19 may soon be viewed as an endemic, not a pandemic.
- Omicron cases appear to have peaked in South Africa and London without a large rise in hospitalizations.
- Rebalance portfolios as needed, but don’t overreact to volatility early in the year.
Stocks fell in early trading on Monday. The S&P 500 dropped about 1.7%, with small caps falling about 1.5%. International shares also fell.
Last week, the S&P 500 fell about 1.8%. Large value stocks rose 1.1%, while large growth stocks fell 4.5%. International shares (both developed and emerging) dropped by about 0.2%.
High-quality stocks outperformed low-quality stocks last week. Key Private Bank continues to maintain a quality bias in client portfolios.
Stock markets are taking their cue from interest rates. Rising interest rates are putting pressure on stocks, especially longer-duration growth stocks.
Since the start of 2018, the S&P 500 has logged consecutive 1% weekly declines on 11 occasions. Of those occasions, 8 of those 11 were in 2018 and 2020 (four in each year).
Conversely, the years prior (2017 and 2019) were characterized by strong uptrends and low volatility. To us, 2021 closely resembled 2019.
This pattern doesn’t guarantee a volatility explosion in 2022, but if the recent string of alternating low volatility to high volatility calendar years holds, 2022 may be a bumpier ride than 2021.
Gold tends to be inversely correlated with real rates (inflation-adjusted bond yields). As real rates rise, gold tends to underperform. Real rates have increased significantly over the past few weeks due to expectations for Fed rate hikes.
Cryptocurrencies have fallen about 50% over the last two months – cryptocurrencies often trade in “risk on” or “risk off” fashion in reaction to changing market sentiment.
Fixed Income Takeaways:
Monday morning, the 10-year Treasury note was trading at 1.81%. The 10-year note yield has broken through significant technical resistance at the 1.75% level. Also, 10-year yields have exceeded the recent peak reached in March 2021 and are rising to levels last seen before the pandemic.
Intermediate to long-end Treasury yields rose over 20 basis points last week. With shorter-duration Treasury yields rising less than longer-duration yields, the 2-year / 10-year Treasury curve has steepened to its widest level in over a month.
The new issuance of investment-grade (IG) corporate bonds was about $60 billion last week, significantly topping syndicate estimates. Spreads remained firm even as Treasury yields rose.
As noted above, the December Fed minutes, released last week, were viewed as hawkish. The Fed continues to worry about increasing inflation. The minutes also noted that existing emergency policy measures are no longer necessary due to continued economic and labor market strength.
Market participants are pricing in about an 80% chance of an initial Fed Funds rate hike in March 2022. The consensus is for three total rate hikes in 2022 (recall that the current rate is effectively 0%).
- Tuesday, 1/4/22
Many of the same themes that dominated the end of 2021 are likely to persist into early 2022:
- Federal Reserve (Fed) Policy Pivot
Our 2022 Outlook in a Nutshell:
- Hot Inflation
- Not the 1970s, but not the 2010s either.
- Is inflation peaking? Despite a recent drop in commodity prices, it’s too early to tell.
- Housing prices, energy costs, and labor markets will need to be monitored closely.
- Crowded Markets
- 5 stocks = 24% of the S&P 500 index.
- BBB-rated bonds now comprise over 50% of the investment-grade bond index. As a result, today's bond market is riskier and more susceptible to swings in interest rates than in the past.
- Flattish Index Returns
- We are not calling for a recession in 2022.
- Economic growth should remain strong, but the Fed will begin draining liquidity from the system.
- Active managers should have an opportunity to outperform the major indices in such an environment.
COVID-19 Update - Could Omicron be Peaking?
- In South Africa, cases peaked roughly 30 days after the initial outbreak. To this point, fatalities related to Omicron have remained low in South Africa.
- For comparison, New York City is about three weeks into its Omicron outbreak.
- The Omicron variant has caused some moderation, but not a plunge, in US activity thus far.
- Kids’ ability to return to the classroom after this year’s winter break could impact the economy via supply/labor participation rates.
- Large cap US stocks led the way, with the S&P 500 up 28.9% during 2021.
- Small cap US stocks rose 14.8%, while non-US developed equities rose 12.1%.
- Emerging market (EM) equities were essentially flat, but EM saw lots of dispersion amongst individual countries.
- Fixed income returns were mixed. High-yield bonds rose 3.8%, while municipal bonds rose about 1%. Investment-grade corporate bonds, as well as Treasuries, generally posted negative returns in 2021.
- Real estate returns were also strong – publicly traded equity Real Estate Investment Trusts (REITs) were up over 41% in the calendar year, with most sectors bouncing back after a tough 2020.
- Private core commercial real estate funds have risen 13.2% through 9/30/21 (as measured by the NCREIF ODCE index). Apartments and industrial properties continue to lead the commercial real estate market.
Stocks rose in early Monday trading. The S&P 500 rose about 0.3%, while small caps rose over 1%. International shares rose about 0.5%.
The early part of January tends to be a very seasonally strong part of the year – markets generally have a bias to the upside after a “Santa Claus rally.”
The market was up over 4% in December. Since 1928, the market has risen more than 4% in December 20 times (including 2021). The subsequent January saw positive returns more than 80% of the time, with an average move of 2.3%.
If January is weak this year, it will be a negative signal given the typical strong historical pattern and seasonal tailwinds.
The S&P 500 rose at least 10% in each of the past three calendar years (2019, 2020, and 2021). This pattern is very rare and has occurred only four prior times. The S&P 500 was up again the next year 3 out of 4 times. The only time the index lost ground in “year 4” was 2015, with a decline of only – 0.7%.
The S&P 500 has risen over 90% over the last three years combined. Typically, volatility increases after such substantial three-year gains, and index returns tend to be muted during the next several years. Thus, a period of consolidation may be necessary to digest the past several years of gains.
Fixed Income Takeaways:
Despite the recent spike in COVID-19 cases, fixed income market participants continue to expect the Federal Reserve to tighten monetary policy in 2022. As a result, the Treasury curve continues to flatten, with short-intermediate bond yields rising more than long-term yields.
The weakest portion of the Treasury curve in 2021 was the five-year note. Short-intermediate Treasury yields are very sensitive to Federal Reserve policy, while longer-duration Treasuries are more sensitive to economic growth expectations.
We expect a deceleration of investment-grade corporate bond issuance in 2022. In 2021, about $1.4 trillion of new supply hit the market. We still expect heavy issuance, but the pace should slow somewhat.
We expect a challenging 2022 for fixed income investors due to low current yields and a continued bias towards rising rates.
See all of our insights and updates in our archive.
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