Despite Near-Term Challenges, Our Long-Term View Is Positive

Invesco US

Invesco US
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Senior Director, Investment Strategy

Key takeaways

The price of policy uncertainty

Market corrections generally don’t emerge out of nowhere — they’re often the result of policy uncertainty.

Challenges lie ahead

The Fed is poised to raise interest rates in a slowing economy with a new, highly contagious coronavirus variant emerging.

The signs still look positive

Importantly, we see few signs that the current business and market cycles will be ending any time soon, and the typical tell-tale signs of a recession are simply not evident.

The Grateful Dead sang, “… when life looks like easy street, there is danger at your door.” To the naysayers, investing in 2021 has seemed too, well, easy. Among the most common questions we received this year was, “When is the drawdown coming?” For what it’s worth, rounding out the top five are: How high will bitcoin go? (I don’t know.) Will inflationary pressures moderate? (I believe yes, over time.) Are the supply-chain challenges easing? (If you squint hard enough you can see signs of progress.) And finally, what is wrong with the New York Giants? (This deserves its own blog.)

Drawdowns vs. corrections

The answer to whether a drawdown (less than 10% decline) is coming has always been an easy one. Sure. Drawdowns are always coming. Since the early 1980s, there has been a greater than 5% drawdown in the S&P 500 Index in every year but two (1995 and 2017).1 Even in 2020, which had felt relatively benevolent until late December, the S&P 500 Index experienced a 5% drawdown in September, before climbing to an all-time high on Dec. 10.2 For all the excitement around the latest drawdown, as of Dec. 20, the broad market is still less than 4% from its all-time high, although some higher profile technology and “reopening” names have fared far worse.3

On the other hand, corrections (declines of greater than 10%) happen less frequently. Corrections tend to not emerge out of nowhere. Often, they are the result of policy uncertainty. The market has currently gone since June 29, 2020, without an official correction, coinciding with, not surprisingly, a 385-day period of mostly straightforward monetary policy.4 The US Federal Reserve (Fed), until recently, had been steadfast in its support for the economy. The current run is the longest stretch without a correction since December 2012–August 2015 (690 days) and February 2016–February 2018 (516 days).5 Both of those spans ended with, you guessed it, the Fed signaling multiple rate hikes ahead.

S&P 500 index: days without a 10& market correction

Could we face a correction?

So, is there danger at our door? Admittedly, there are challenges. The Fed is poised to raise interest rates in a slowing economy with a new, highly contagious coronavirus variant emerging. If there were ever a time for a market correction, this could be it, although few careers have been made accurately predicting corrections. Even if it were to occur, one should view it in the proper perspective of a market that has been up 51% since June 2020.6

More importantly, we see few signs that the current business and market cycles will be ending any time soon. Despite the recent market volatility, financial conditions remain very easy.7 The typical tell-tale signs of a recession — a meaningfully flatter yield curve,8 substantially wider credit spreads,9 a significantly stronger US dollar10 — are simply not evident. The bond and currency markets appear to expect inflationary pressures to ease in the coming year as growth moderates, providing cover for the Fed to ultimately back off its tightening stance. I tend to agree. If that turns out to be the case, then any near-term drawdown or correction would likely prove to be a short-term deviation on a longer-term advance.

Over time, to borrow from another Grateful Dead song, we suspect that the market “just keep(s) truckin’ on.” 


1 Source: Bloomberg, as of Dec. 20, 2021. The S&P 500 Index is a is a market-capitalization-weighted index of the 500 largest domestic US stocks. Indices cannot be purchased directly by investors. Past performance does not guarantee future results.

2 Source: Bloomberg, as of Dec. 20, 2021

3 Source: Bloomberg, as of Dec. 20, 2021. “Reopening” names includes but are not limited select industries such as airlines, hotels, and cruise lines.

4 Sources: Bloomberg, Invesco, as of Dec. 20, 2021

5 Sources: Bloomberg, Invesco, as of Dec. 20, 2021

6 Source: Bloomberg, as of Dec. 20, 2021. Returns are represented by the S&P 500 Index return from June 29, 2020, to Dec. 20, 2021.

7 Source: Bloomberg, as of Dec. 20, 2021. Financial conditions are represented by the Goldman Sachs US Financial Conditions Index, which is a weighted average of riskless interest rates, the exchange rate, equity valuations, and credit spreads, with weights that correspond to the direct impact of each variable on gross domestic product.

8 Source: Bloomberg, as of Dec. 20, 2021. The yield curve is represented by the difference between the 2-year US Treasury rate and the 10-year US Treasury rate.

9 Source: Bloomberg, as of Dec. 20, 2021. Credit spreads are represented by the Bloomberg US Corporate High Yield Bond Index Option-Adjusted Spread. The index measures the USD-denominated, high yield, fixed-rate corporate bond market. Option-adjusted spread is the yield spread which must be added to a benchmark yield curve to discount a security’s payments to match its market price, using a dynamic pricing model that accounts for embedded options.

10 Source: Bloomberg as of Dec. 20, 2021. The US dollar is represented by the US Dollar Index (DXY). The US Dollar Index indicates the general international value of the USD. This is calculated by averaging the exchange rates between the US dollar and major world currencies. 

Originally Posted on December 21, 2021 – Despite Near-Term Challenges, Our Long-Term View Is Positive

Important information

NA 1965576

Past performance is not a guarantee of future results. An investment cannot be made into an index.

All investing involves risk, including the risk of loss. This does not constitute a recommendation of any investment strategy or product for a particular investor. Investors should consult a financial professional before making any investment decisions.

Many products and services offered in technology-related industries are subject to rapid obsolescence, which may lower the value of the issuers.

The yield curve plots interest rates, at a set point in time, of bonds having equal credit quality but differing maturity dates to project future interest rate changes and economic activity. A flat yield curve is one in which there is little difference in the yields for short-term and long-term bonds of the same credit quality. In a normal yield curve, longer-term bonds have a higher yield.

Credit spread are the difference in yield between bonds of similar maturity but with different credit quality.

The opinions referenced above are those of the author as of Dec. 20, 2021. These comments should not be construed as recommendations, but as an illustration of broader themes. Forward-looking statements are not guarantees of future results. They involve risks, uncertainties and assumptions; there can be no assurance that actual results will not differ materially from expectations.

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