In the final week of the year, all equity markets, except for the tech-laden Nasdaq, finished higher, with the S&P 500 hitting another record high. The TSX increased by 0.44% in the week, and for the year returned 17.63%. The Dow gained 1.08% to finish the year up 18.73%. The S&P 500 rose 0.85% in the week, bringing the year-to-date return to a very respectable 26.89%. The Nasdaq was flat on the week, however managed to finish the year up 21.39%. The S&P MidCap 400 jumped 1.65% and finished the year up 23.21%, while the Russell 2000 was up 0.17% in the final week of trading, bringing the year-to-date return to 13.69%. European markets followed suit, moving higher with the pan-European STOXX Europe 600 index finishing strongly up 1.09% on the week, bringing the year-to-date return to 22%. The materials, utilities, and real estate sectors outperformed, while tech struggled, as did communication services. Thin trading volumes and easing fears over the omicron variant supported the gains in the equity markets.
The economic calendar for the holiday-shortened week was light compared to the last several weeks. On Tuesday, the S&P CoreLogic Case-Shiller 20-city price index reading showed an increase for October of 0.8% or annualized 18.4% year-over-year. The largest year-over-year increase was Phoenix increasing 32.2% year-over-year, Tampa rising 28.1%, and Miami increasing 25.7%. Rising prices are trending the highest in the south and southeast. Phoenix is leading all cities for the 29th consecutive month, with Tampa and Miami following. The shift from cities to suburbs is driving rising prices.1 On Wednesday, the National Association of Realtors reported pending home sales were off 2.2% in November as buyers re-considered higher prices and tight supplies. As inventory builds, affordability may become less of a problem.2 On Thursday, the Chicago PMI reading rose to 63.1 for December compared to 61.8 for November. A reading over 50 indicates a growing economy and a reading over 60 is considered exceptional. The latest reading signals continued strength in the Chicago regional economy despite the new omicron covid variant and labor shortages. The national ISM report will be released next week on Tuesday.3 Also, on Thursday, the Department of Labor released the initial weekly claims showing a decrease of 8,000 from the previous week to 198,000. The latest week was the lowest weekly level since October 1969 when it was 199,250. Continuing claims for all programs increased by 39,363 over the previous reading to 2,177,355.4
The year ahead is likely to prove challenging but still positive. Growth will likely moderate to a more normal pace but still higher than historic norms and less than the 5% plus predicted for 2021. As the year progresses, job gains will support incomes and keep demand strong, shifting to services like the hospitality sector as the economy normalizes. There will be a focus on inflation as the central banks suspend liquidity programs and adjust rates. As Fed Chairman Powell pointed out in his last news conference, inflation pressure broadened. Inflation caused by supply chain bottlenecks is expected to ease; however, wage inflation is not expected to disappear with employers continually challenged to find workers. With more jobs than available workers, the labor shortage could persist through 2022.
Strong demand, productivity improvements, and pricing power pushed revenues higher as well as stock prices in 2021. In 2022, the pace of earnings will likely slow, as will the strength of the current bull market. The virus will continue to impact investor sentiment and the economy. If government policies become less restrictive, equity investments should benefit from above-historical trend-line growth.
From an interest rate perspective, with negative real yield and a rising interest rate environment, investor sentiment could shift from stocks with no earnings and no cash flow to stocks with earnings and pricing power. As inflation became more persistent, the Fed indicated it was time to reduce liquidity in the system by starting and accelerating the timeline for asset purchase reductions from what was previously projected. In addition, the Fed policymakers signaled rate increases in 2022. High-flying small-cap tech stocks with little or no earnings came under pressure with the prospect of higher rates. If this scenario plays out, a rotation from growth to value seems likely. With negative real yields, investors seeking income have few options other than alternative fixed income and dividend-paying stocks. With the mid-term elections in the US and elections in Europe, 2022 will be anything but a smooth ride as investor sentiment fluctuates throughout the year; volatility once again is expected to create a nervous market.
Warren Gerow is an independent investment wealth consultant to Sightline Wealth Management.
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