Volatility Returns as Markets Retreat
In January, volatility returned to the stock market in a way not seen since the emergence of COVID-19 nearly two years ago. High inflation and commodity costs contributed to the S&P 500 dropping more than 10% intra-month, before a slight recovery to end January down 5.2%.
Energy stocks rose 19.1% in January, the sole positive outlier in a generally negative month. Geopolitical tensions between Ukraine and energy-producing Russia, coupled with the expected post-Omicron rebound in oil and natural gas demand, boosted many commodity prices. Notably, the benchmark West Texas Intermediate oil price rose 18% in January and is up over 75% year-over-year.
What Didn't Work
Every other sector of the market was flat or down during January. Despite the expectation of +8% year-over-year sales growth for 2022 (Factset Research), many companies are experiencing high costs that are impacting profit margin and earnings growth. The Omicron COVID-19 variant played a role in driving up costs for many businesses, as employee absenteeism slowed productivity and weighed on efficiency. Additionally, higher prices for key input costs including oil, natural gas, steel and lumber are curtailing profit margins.
What We're Watching
Despite January’s volatility, our outlook for the year remains virtually unchanged. Going into 2022, we expected COVID-19, supply chains, inflation, and U.S. Federal Reserve policy to create hurdles for the stock market. We are seeing those dynamics play out now. The most recent inflation reading shows core consumer prices are increasing at a 5.5% annualized rate (U.S. Bureau of Labor Statistics), which virtually assures that the U.S. Federal Reserve will begin raising interest rates at their March meeting. We expect elevated inflation for at least another few months, as recently enacted price increases lap a period of low inflation last year. Fortunately, there is optimism that the waning impact from the Omicron variant will ease inflationary pressures in the Spring. The U.S. Federal Reserve will closely monitor these developments and will adjust the pace of future rate increases accordingly.
We continue to expect choppy stock markets, as interest rate increases typically cause nervousness among investors. Our strategy of investing in high-quality companies that build strong businesses with a long-term focus should serve us well through this period.
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