Get ready for the climb. Here’s what history says about stock market returns during Fed rate hike cycles.


Bond yields are rising again so far in 2022. The US stock market looks vulnerable to a bona fide correction. But what can you really tell from just two weeks into a new year? Not much and a lot.

One thing is certain: the days of making easy money are over in the age of the pandemic. Benchmark interest rates are headed higher and bond yields, which have been anchored at historically low levels, are destined to rise in parallel.

Read: Weekend Reads: How to Invest in a Rising Inflation and Rising Interest Rate Environment

It looked like members of the Federal Reserve couldn’t make that point clear last week, ahead of the traditional media blackout that precedes the central bank’s first policy meeting of the year on Jan. 25-26.

The release of consumer and producer price indices in the United States this week only cemented market expectations of more aggressive or hawkish monetary policy from the Fed.

The only real question is how many interest rate increases the Federal Open Market Committee will grant in 2022. JPMorgan Chase & Co. JPM,
-6.15%
CEO Jamie Dimon hinted that seven could be the number to beat, with market-based projections pointing to the potential for three increases in the fed funds rate in the coming months.

To verify: Here’s how the Federal Reserve could shrink its $8.77 trillion balance sheet to fight high inflation

Meanwhile, 10-year Treasury yields returned 1.771% on Friday afternoon, meaning yields rose about 26 basis points in the first 10 trading days to start a calendar year. , which would be the fastest rise since 1992, according to Dow Jones market data. Thirty years ago, the 10-year rose 32 basis points to around 7% at the start of this year.

The 2-year note TMUBMUSD02Y,
0.960%,
which tends to be more sensitive to Fed interest rate moves, is knocking on the door 1%, up 24 basis points so far this year, according to FactSet data.

But do interest rate hikes translate into a weaker stock market?

Ultimately, during so-called rate hike cycles, which we look set to enter as early as March, the market tends to behave strongly, not badly.

In fact, during a Fed rate hike cycle, the average return of the Dow Jones Industrial Average DJIA,
-0.56%
is almost 55%, that of the S&P 500 SPX,
+0.08%
is a gain of 62.9% and the Nasdaq Composite COMP,
+0.59%
averaged a positive return of 102.7%, according to Dow Jones, using data dating back to 1989 (see attached chart). Fed interest rate cuts, perhaps unsurprisingly, are also generating strong gains, with the Dow Jones up 23%, the S&P 500 up 21% and the Nasdaq up 32%, in average during a Fed rate hike cycle.

Dow Jones Market Data

Interest rate cuts tend to occur during periods when the economy is weak and rate hikes when the economy is considered too hot by some measure, which may explain the disparity in stock market performance during periods of interest rate cuts.

Admittedly, it’s harder to see the market outperform during a time when the economy is experiencing 1970s-style inflation. Right now, bullish investors seem unlikely to get a whiff of double-digit returns. based on stock performance so far in 2022. The Dow Jones is down 1.2%, the S&P 500 is down 2.2%, while the Nasdaq Composite is down 4 .8% so far in January.

Read: Worried about a bubble? Why You Should Overweight US Stocks This Year, According to Goldman

What works?

So far this year, the winning stock trades have been in energy, with the energy sector SP500.10 of the S&P 500,
+2.44%

XLE,
+2.35%
envisioning a 16.4% advance so far in 2022, while financials SP500.40,
-1.01%

XLF,
-1.04%
occupy a distant second place, up 4.4%. The other nine sectors of the S&P 500 are either stable or lower.

Meanwhile, value themes are making a more pronounced comeback, recording a weekly gain of 0.1% last week, as measured by the iShares S&P 500 Value ETF IVE,
-0.14%,
but since the beginning of the month, the return is 1.2%.

See: These 3 ETFs let you play in the hot semiconductor sector, where Nvidia, Micron, AMD and others are rapidly increasing their sales

What’s not working?

Growth factors are strained as bond yields rise, as a rapid rise in yields makes their future cash flows less valuable. Higher interest rates are also hampering the ability of tech companies to finance stock buybacks. The popular iShares S&P 500 Growth ETF IVW,
+0.28%
is down 0.6% on the week and 5.1% in January so far.

What’s really wrong?

Biotech stocks are getting bombarded, with the iShares Biotechnology IBB ETF,
+0.65%
down 1.1% on the week and 9% on the month so far.

And a popular retail-focused ETF, the SPDR S&P Retail ETF XRT,
-2.10%
fell 4.1% last week, contributing to a 7.4% decline since the start of the month.

And Cathie Wood’s flagship ARK Innovation ETF ARKK,
+0.33%
ended the week down nearly 5% for a 15.2% drop in the first two weeks of January. Other funds in the complex, including ARK Genomic Revolution ETF ARKG,
+1.04%
and ARK Fintech Innovation ETF ARKF,
-0.99%
are similarly afflicted.

And popular meme names are also hammered home, with GameStop Corp. EMG,
-4.76%
down 17% last week and more than 21% in January, while AMC Entertainment Holdings AMC,
-0.44%
fell almost 11% on the week and more than 24% on the month to date.

Gray Swan?

MarketWatch’s Bill Watts writes that fears of a Russian invasion of Ukraine are on the rise, prompting analysts and traders to weigh the potential shockwaves in financial markets. Here’s what his reporting says about geopolitical risk factors and their longer-term impact on markets.

week ahead

US markets are closed for the Martin Luther King Jr. holiday on Monday.

Read: Is the stock market open on Monday? Here are the trading hours on Martin Luther King Jr. Day

Notable profits of American companies

(Dow components in bold)
TUESDAY:

Goldman Sachs Group
GS,
-2.52%,
True Financial Corp. TFC,
+0.96%,
SBNY Signature Bank,
+0.07%,
PNC Financial PNC,
-1.33%,
JB Hunt JBHT Transportation Services,
-1.04%,
Interactive Brokers Group Inc. IBKR,
-1.22%

WEDNESDAY:

Morgan Stanley MS,
-3.58%,
Bank of America BAC,
-1.74%,
US Bancorp. usb,
+0.09%,
State Street Corp. STT,
+0.32%,
UnitedHealth Group Inc.
A H,
+0.27%,
Procter & Gamble
PG,
+0.96%,
Kinder Morgan KMI,
+1.82%,
Fastenal Co. FAST,
-2.55%

THURSDAY:

NetflixNFLX,
+1.25%,
United Airlines Holdings UAL,
-2.97%,
American Airlines AAL,
-4.40%,
Baker Hughes BKR,
+4.53%,
Discover the DSF Financial Services,
-1.44%,
CSX Corp. CSX,
-0.82%,
Union Pacific Corp. UNP,
-0.55%,
The Travelers Co. Inc. TRV, Intuitive Surgical Inc. ISRG, KeyCorp. KEY,
+1.16%

FRIDAY:

Schlumberger SLB,
+4.53%,
Huntington Bancshares Inc. HBAN,
+1.73%

US Economic Reports

Tuesday

  • Empire State Manufacturing Index for January due at 8:30 a.m. ET

  • NAHB homebuilder index for January at 10 a.m.

Wednesday

  • Building permit and construction start for December at 8:30 a.m.

  • Philly Fed Index for January at 8:30 a.m.

Thusday

  • Initial unemployment claims for the week ended Jan. 15 (and continuing claims for Jan. 8) at 8:30 a.m.

  • Existing home sales for December at 10 a.m.

Friday

Leading economic indicators for December at 10 a.m.

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