Why The Bear Market Roared Back – AGF Perspectives

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Insights and market perspectives

Author: Kevin McCreadie


AGF’s CEO and Chief Investment Officer discusses the recent market crisis and the possibility of central banks becoming even more aggressive on inflation in the coming months.

Why are stock markets falling again?

It’s really quite simple. Markets rallied early in the summer on the notion that inflation had peaked and central banks no longer needed to raise interest rates aggressively. But that idea has been thoroughly scrapped in the last month, first by the central bankers themselves – who have been telling investors pretty much all along that their fight against higher prices is not over – and then finally once and for all when they are higher – than expected US inflation figures for August were released last week.

In fact, the question now is whether the Federal Reserve and its ilk need to be more aggressive going forward, not less. To that end, recent estimates show that the Fed’s final rate (or the point at which the Fed will begin cutting rates) has risen to nearly 4.5% from around 3.7% a month ago, meaning investors are counting on it US interest rates will rise another 200 basis points from current levels.

But the sheer scale of future rate hikes may not be investors’ biggest concern. For example, if it took a few years to reach 4.5%, consumers would have time to adjust their spending habits in a measured way that doesn’t necessarily weigh on aggregate activity. However, it could be a very different story if the Fed ramps up the pace of its current rate hikes and attempts to match its final rate within a few months. In this case, mortgage and loan payments are immediately much more expensive than before the increases, and consumers are almost forced to make choices and reduce their overall spending.

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So it may be the pace of the rate hikes yet to come – rather than the magnitude – that investors should be most worried about. Furthermore, we do not yet know how the Fed’s previously announced rate hikes this year will ultimately affect the US economy. This is largely due to a natural lag that often occurs between when rate hikes are announced and when their impact on economic growth is fully reflected in the data. Take the labor markets for example. They appear healthier than ever based on the current unemployment rate of 3.7%, but beneath the surface a slightly different story is beginning to unfold, particularly in economically sensitive sectors like construction, where job losses are now mounting.

All in all, investors are now dealing with a very different macro environment than they thought or hoped just a few weeks ago. And to be clear, this isn’t just a US-centric story. The same conditions apply in several other countries and regions around the world, including Europe, which is perhaps in the most difficult place of all. The European Central Bank is not only being forced to raise interest rates on an unprecedented scale to combat inflation rates, which are among the highest in the world, but it must do so at a time when the European economy may already be in recession and could plummet even more this winter given the ongoing Ukraine war and escalating natural gas prices.

What should investors expect from the markets in the coming weeks?

It probably goes without saying that markets are likely to remain very volatile into the end of the year and the possibility of another significant pullback from current levels cannot be ruled out – nor can the prospect of a sizeable rally if the data is correct next months.

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Perversely, bad news about the economy (e.g. weaker growth, rising unemployment) can become good news for stocks if it forces the Fed and other central banks to reconsider their current stance and significantly slow or cut the pace of their rate hikes stop everyone.

Admittedly, for this to happen, there probably needs to be good news on the inflation front as well. In fact, the worst-case scenario for the markets could be one in which inflation remains at current levels while economic growth slows dramatically.

Either way, central banks are unlikely to ease rate hikes any time soon. It will likely take them at least a few months of stats to work with before deciding on their next pivot. Therefore, investors should remain cautious near-term and be ready for more of the same volatility that has dominated markets so far this year.

Kevin McCreadie is Chief Executive Officer and Chief Investment Officer at AGF Management Limited. He makes regular contributions AGF perspectives.

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The views expressed in this blog are those of the authors and do not necessarily represent the opinions of AGF, its subsidiaries or affiliates, funds or investment strategies.

The comments contained herein are provided as a general source of information based on information available as of September 19, 2022 and are not intended as comprehensive investment advice applicable to an individual’s circumstances. Every effort has been made to ensure the accuracy of these comments at the time of publication, however accuracy cannot be guaranteed. Market conditions are subject to change and AGF Investments accepts no responsibility for individual investment decisions resulting from use of or reliance on the information contained herein.

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