| February 11, 2022

Macro Overview

Market dynamics are shifting as the Federal Reserve outlines its execution of ending monetary stimulus in order to squash inflationary pressures.

Analysts and economists are expecting market volatility to continue as the Federal Reserve prepares to embark on its interest rate increase initiative. Some believe that the Fed will successfully pull off a series of four possible rate increases this year culminating in a “soft landing” whereas a rise in rates to control inflation doesn't stifle economic expansion.

Inflation reached the highest level in 40 years, annualizing 7% at the end of 2021. Several analysts and economists believe that inflation may be peaking and may actually reverse course in coming months. It is also plausible that the Fed’s rush to raise rates simultaneously as pandemic stimulus funds have evaporated, may slow economic growth more than anticipated and ease inflation precipitously.

Economists are suggesting that the post pandemic inflation the nation is experiencing is not being driven by excessive demand, but by limited supply of goods and workers. Nearly all prior inflationary periods have been driven by excess demand.

Supply constraints are still prevalent throughout the country, caused by multiple factors that neither the administration nor the Federal Reserve can alleviate. As higher prices evolve from the constraints, consumers modify spending behavior in order to accommodate inflationary tensions. The Atlanta Fed GDPNow model projects a substantial pullback in retail spending as consumers exhaust all remaining stimulus funds and minimize expenditures on costly discretionary goods.

Government data is showing that demand is falling faster than supply for various goods and services across the nation, alleviating inflationary tensions. Sales of products and services including furniture, clothes, electronics, appliances, sporting goods, and dining out have fallen over the past few weeks, indicating a slowdown in consumer expenditures.

A growing consensus among economists is the belief that pandemic stimulus funds and low vaccination rates have been the primary factors behind the drop in labor participation and a tight labor market. Wage inflation could eventually subside as more workers return to the workforce, thus helping to mitigate overall inflation pressures.

Financial market volatility intensified in January, as geopolitical tensions coupled with expectations of an imminent Fed rate hike drove equity and bond prices in extreme directions. Major equity and fixed income indices saw price declines in January.

Crude oil prices posted their strongest January in decades as expanding global demand and limited supply propelled prices higher. Rising oil prices have also translated into rising gasoline prices nationwide, with some analysts expecting even higher prices heading into the summer months.

The Census Bureau, via its Household Pulse Survey, found that over 40% of unemployed individuals blame Covid related reasons for their unemployment. The same survey also identified that there were over 3.5 million workers absent from work in January due to illness, a record number. Labor market data has become a focal point for the Federal Reserve and financial markets, as distortions surrounding what the data is relaying about the actual economic health of the economy.

Sources: Fed, Labor Dept., www.census.gov/data/experimental-data-products/household-pulse-survey.html

Equities Have A Rough Start Of The Year - Domestic Equity Overview

Optimistic earnings expectations helped to reinforce equities following heightened volatility throughout January. Many analysts believe that recent earnings improvements are merely a result of stimulus driven growth for some companies.

Equities saw their worst monthly performance in January since March 2020, as elevated volatility drove all major indices lower. The only two S&P 500 sectors ending positive for the month were energy and financials, with the real estate and consumer discretionary sectors having the largest pullbacks. Amazingly, the 12-month trailing returns through January 31st, were positive for all of the S&P 500 sectors.

The so-called FAANG stocks now represent 25% of the S&P 500 Index encouraging some money managers to reconsider exposure to certain indices with such concentration.

Sources: S&P, Bloomberg

Rates Head Higher - Fixed Income Update

Interest rates continued on a gradual climb in January, with rates on key consumer loans such as mortgages, auto loans, and lines of credit all increasing.

The Treasury yield curve flattened further in January, meaning that shorter term bond yields were closer to longer term bond yields. The 2-year Treasury bond yielded 1.18% at the end of January relative to the 10-year Treasury bond yield at 1.78%. Economists view a flat yield curve as the expectation of slowing economic growth.

Mortgage rates rose to their highest levels since the start of the pandemic, reaching a 3.56% average for a 30-year fixed rate mortgage, up from 3.29% at the beginning of March 2020. The 30-year average mortgage rate fell to 2.67% in December 2020, as the Fed aggressively bought mortgage bonds and placed them onto their balance sheet.

Sources: Treasury Dept., Fannie Mae, Federal Reserve

Where Are Home Prices Headed - Housing Market Update

After rising consecutively every quarter since the middle of 2020, housing prices have started to pullback. Limited inventory, migration to rural areas, extended low mortgage rates, and material supply issues have all contributed to elevated home prices over the past two years. The most recent data available by the St. Louis Federal Reserve show a decrease in the median sales price of houses nationwide to $408,100 in October 2021, a drop from $411,200 the previous quarter.

Affordability has become a grave issue for younger homebuyers, even with record low mortgage rates, as inflated prices have forced many to rent until prices retract.

As the Fed readies for a rate increase in March, it will also be selling millions of dollars in mortgage bonds from its balance sheet in order to help mitigate inflationary pressures. Many analysts believe that the Fed’s actions will directly influence mortgage rates to rise, possibly enough to stifle rising housing prices. A growing consensus seems to believe that housing prices will be pressured lower as additional inventory becomes available and as rates rise with the Fed’s actions.

Source: St. Louis Federal Reserve Bank

What Will Probably Stay Expensive in 2022 - Inflationary Trends

Supply constraints and labor shortages were the two primary factors for prices on numerous products and services rising as much as they did in 2021. Even as some supply and labor issues have started to ease, there are still underlying inflationary pressures in certain areas.

Groceries saw one of the largest price increases in 2021, as labor and delivery problems caused store shelves to go bare along with limited product options. Higher commodity costs, such as wheat, milk, and oils have also contributed to more expensive food prices. Several food manufacturers recently announced price increases on many products for 2022 in order to maintain profitability.

Essential components such as semiconductor chips for automobiles have hindered production of cars and trucks for months, extending into 2022. Continued minimal inventories are expected to keep prices on new and used car prices higher than normal.

Gasoline saw one of the single largest price increases in 2021, jumping nearly 50%. Many analysts believe that production and delivery concerns are expected to continue as we head into the summer months, possibly driving fuel costs even higher. Transportation of goods, airline travel, and heating are some of the areas where higher energy costs may result in higher prices.

Sources: Bureau of Labor Statistics, EIA

Consumer Sentiment Starting To Dip - Consumer Behavior Overview

Optimism following excessive monetary and fiscal stimulus efforts drove consumer sentiment to highs during the pandemic. Numerous stimulus programs provided businesses and individuals abundant funds in order to help maintain and fortify financial needs. As of the beginning of the year, the majority of these programs had exhausted benefits and paid out most if not all committed funds. As the availability of these funds have subsided, consumers have less to spend and thus feel less confident about spending what they have left. Some consumers have even resorted to tapping their savings as unemployment and pandemic benefit payments have become exhausted.

Data tracked by the University of Michigan Consumer Sentiment Index revealed that sentiment among consumers has been trending downward since the fall of 2021. The most recent release of the index was 67.2, the lowest reading since November 2011. The index essentially identifies how confident consumers are about spending on various items such as cars, sporting equipment, homes, furniture, and dining out. Index readings were fairly consistent and elevated from roughy 2017 until the start of the pandemic in March 2020. Sentiment did improve gradually following the release of stimulus funds in 2020 and 2021, but has since begun contracting as funds have depleted.

Source:  University of Michigan: Consumer Sentiment Index

**Market Returns: All data is indicative of total return which includes capital gain/loss and reinvested dividends for noted period. Index data sources; MSCI, DJ-UBSCI, WTI, IDC, S&P. The information provided is believed to be reliable, but its accuracy or completeness is not warranted. This material is not intended as an offer or solicitation for the purchase or sale of any stock, bond, mutual fund, or any other financial instrument. The views and strategies discussed herein may not be appropriate and/or suitable for all investors. This material is meant solely for informational purposes, and is not intended to suffice as any type of accounting, legal, tax, or estate planning advice. Any and all forecasts mentioned are for illustrative purposes only and should not be interpreted as investment recommendations.