Is the US market sneezing?
We have a saying in the stock market that goes “When the United States sneezes, the world catches a cold.”
Unfortunately, it looks like the United States is sneezing, which is why local market players including myself are closely monitoring the situation.
Inflation in the United States has been going up since late last year. In the first quarter of this year, it hit an average of 8 percent, which is the highest since the early 1980s.
Inflation is expected to remain elevated in the next few months. Aside from the ongoing war between Russia and Ukraine, lockdowns in China due to its zero-COVID-19 policy are worsening supply chain bottlenecks, further pushing up costs.
Because of this, the US Fed has turned very hawkish. Although Fed chair Jerome Powell already telegraphed late last year that the Fed would start raising rates this year, the continuous increase in inflation has caused the central bank to become more aggressive, such that economists are now projecting Fed fund rates to increase by a total of 200 basis points to 2.25 percent by the end of this year.
The more hawkish Fed has in turn caused the US 10-year bond rate to increase to 2.93 percent currently, which is well above its prepandemic level of 1.92 percent as of end 2019. High interest rates are not good for both the economy and the stock market. High interest rates push up borrowing costs, discouraging consumers from spending and businesses from investing. High interest rates also increase required returns on stocks, making them less attractive to investors.
Last week, the US government announced that first quarter GDP fell by 1.4 percent. Although there are reasons to stay optimistic since consumer spending and business investment remained strong, growing by 2.7 percent and 9.2 percent respectively, I personally have a more cautious view.
For one, numerous factors will make it difficult for consumer spending to sustain its strong performance. Because of the significant increase in inflation, consumer confidence as measured by the University of Michigan Consumer Sentiment index is close to its level during the global financial crisis.
Moreover, as discussed earlier, higher interest rates will lead to more expensive borrowing costs. This in turn will discourage the purchase of big-ticket items such as cars and housing as they become less affordable.
Business confidence is also deteriorating.
According to the monthly survey of the National Federation of Independent Business, small businesses’ outlook for general business conditions has deteriorated to a new record low, surpassing even the low recorded more than 40 years ago as inflation has become the single most important problem plaguing small businesses, according to the survey.
There is also a strong possibility that the weakness of exports during the first quarter will continue for the rest of the year. Because of expectations that the Fed will significantly raise interest rates this year, the US dollar has strengthened recently, making US exports less competitive in the global market.
The S&P 500 in the United States is currently retesting the low it hit in February. It will be interesting to see if the index will break below the said level in the next few weeks.
If investors and fund managers are not convinced that the US economy will continue to do well despite the numerous headwinds, the stock market will go down. Unfortunately, global equity markets including the Philippine market will be sold down, so investors need to prepare for this possibility. INQ
