Starting in early November, the stock market encountered a rough patch. It wasn't totally evident by looking at the major averages, but it was very apparent when looking at other parts of the market like growth stocks or small cap stocks which are often considered to be measures of investors' risk appetites.
The major factor was the increase in short-term rates which is considered a bearish force on stock prices especially in an environment of flat or negative earnings growth. Another was the emergence of the omicron variant.
The S&P 500
Of course, this price action is creating much discussion among market participants whether the bounce will roll over to new lows or was it the start of a new uptrend?
While some sort of pullback in the near term is likely, this should be bought, and probabilities indicate that the market should end the year at new, all-time highs. The major factor in this outcome is that earnings continue to grow at an impressive rate.
Going into Q4, expectations were for 20% earnings growth in the quarter. Remember that going into Q3, S&P 500 consensus earnings growth expectations were 24% but it eventually ended up at 39%. Although it's very early, we are seeing positive results from economically sensitive sectors like semiconductors and housing stocks.
Further, expectations for rate hikes in 2022 and 2023 are now between 3 and 4 and 6 to 7, respectively. So, the market has already priced in a tighter path for monetary policy which does now give the Federal Reserve some room to ease if commodity prices can keep falling and bottlenecks in the supply chain can keep improving.
Regardless, these are not likely to get worse, so it's fair that inflation readings could moderate which could reduce pressure on the Fed. On top of these factors, the end of December and the first week of January are the most bullish time period of the year, while fund managers are underperforming and underinvested which increases the chances of year-end buying.
