November 2022 Market Commentary
December 7, 2022
Beyond the abundance of food, family, friends, and football, Thanksgiving provides an opportunity for people to reflect on life and the things for which they are thankful. For investors, 2022 has provided few reasons to give thanks, as surging inflation, and the Fed’s efforts to combat it, has resulted in significant market declines. Further, the Fed’s aggressive rate hikes have raised concerns that the US economy may be headed for recession. Against that backdrop, investors were at least thankful that the current equity market rally which began in October, continued in November. With the S&P 500 having rebounded 14% since reaching its current bear-market low of 3,577 in mid-October, some analysts are beginning to express optimism that the worst of the bear market is over. Others are more skeptical, contending that the current rebound is just another bear market rally, akin to what was experienced during the summer, when the S&P 500 rallied 17%, before retreating to new lows during the fall.
As has been the case for much of the year, inflation and the Fed remained investors’ primary focal points in November; and on both fronts, markets were heartened by improvements, both real and perceived. The month got off to a rocky start when Fed Chair Jay Powell, speaking after the Fed’s November FOMC meeting, side-stepped questions about the potential for the Fed to reduce the size of its rate hikes beginning in December, something a Wall Street Journal article published before the meeting suggested. In addition, Powell surprised markets with comments that “incoming data since our last meeting suggest that the ultimate level of interest rates will be higher than previously expected” and that “the question of when to moderate the pace of increases is now much less important than the question of how high to raise rates and how long to keep monetary policy restricted, which really will be our principal focus.”
Markets quickly rebounded, however, following the release of consumer inflation (CPI) data, showing prices decelerated by more than expected, with the headline pace of inflation slowing in October from 8.2% to 7.7%. Even more importantly, core inflation, to which the Fed is highly attuned, decelerated for the first time in three months. The subsequent release of producer inflation (PPI) data showed similar developments. Collectively the two reading were seen as providing the Fed with the necessary “cover” to reduce the size of future rate hikes should it so choose. Markets received another boost at the end of the month when Powell changed his tone and all but confirmed that the Fed is on the cusp of reducing the size of its rate hikes, starting in December. Speaking at a conference, Powell noted that, “It makes sense to moderate the pace of our rate increases as we approach the level of restraint that will be sufficient to bring inflation down,” before going on to say, “The time for moderating the pace of rate increases may come as soon as the December meeting.”
As the Fed has raised rates over the course of the year, economic data has generally slowed, with the trend continuing in November. Data from industry group ISM showed that activity in the manufacturing and services sectors slowed in October to its lowest level since May 2020. And while November data released in early December showed a slight reacceleration in services sector activity, manufacturing activity experienced an outright contraction for the first time since the Spring of 2020.
Housing continues to be the most obvious casualty of the Fed’s tightening efforts, as higher mortgage rates have resulted in a significant slowdown in activity. Data reported in November showed existing home sales fell for the 9th consecutive month to their slowest pace since early in the pandemic and when the pandemic is excluded, to their lowest level since 2011. While higher rates have clearly dampened demand, sellers do not appear ready to capitulate on pricing. The median price for existing home sales fell to $385K in October, down 9% from June’s $421K record, but still up 6% from a year ago.
Defying the odds for now, employment has remained relatively robust, despite some signs of slowing. Nonfarm payrolls added 263K jobs in November, the smallest increase since December 2020, but well above the pre- pandemic average. The gains came despite an increasing number of mass layoff announcements, concentrated thus far in the tech sector. Like nonfarm payroll, job openings, another measure of the labor market, have also slowed but remain robust. Since peaking at 11.9M in March, job openings have slowly declined, ending October at 10.3M. Despite the decline, the ratio of job openings-to-unemployed stands at 1.7x, far higher than the Fed would like. The current strength of the labor markets lends credence to the thesis that any recession should be relatively mild.
Similar to equity markets, fixed income markets rallied significantly in November, resulting in the Bloomberg US Aggregate Index, the broadest measure of the US bond market, gaining 3.7%. In addition to the better-than- expected inflation data, the release of the Fed’s November FOMC minutes stated that a “substantial majority” of the Committee thought that a slower pace in hikes would soon be necessary – showing that there was some consensus in taking a more cautious approach. Though multiple Fed members were quick to point out that a slower pace did not constitute a “pivot”, and that the potential for a higher terminal rate than the market currently anticipated remained, the market largely shrugged off those warnings. Powell’s speech at the end of the month all but confirming a 0.50% rate hike in December capped off the bond market’s best month since 2008.
After touching 15-year highs near the start of the month, the release of October CPI data precipitated a steep decline in longer-dated Treasury yields, which fell between 40-60 basis points (0.40%-0.60%) by month end. The sharp decline in longer-dated rates, coupled with relatively modest declines in shorter rates, resulted in a further inversion of the yield curve. By month-end, the spread between the 3-month and 10-Year Treasury yield had fallen to -0.71%, its lowest level since 2000, while the spread between the 2-year and 10-Year Treasury yield had fallen to -0.70%, its lowest level since 1982. Negative spreads, known in fixed income parlance as yield curve inversions, are considered harbingers of recession, and typically precede economic slowdowns.
Within fixed income, municipal bonds enjoyed their biggest rally in decades. Municipal bonds are generally fueled by Treasury rallies, but in this case, the municipal markets more than doubled the performance of the Treasury market due to a supply-demand imbalance. Municipal issuers have been largely sitting out of the market – avoiding the excessive volatility and high yields of recent months. After the encouraging CPI release, investors anticipated a peak in yields and rushed back into the municipal market. With little new supply, a flood of demand, and a Treasury rally, all the elements converged to offer the best monthly muni performance since the 1980s, and the greatest outperformance of Treasuries since May 2020.
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Information and research contained herein do not represent a recommendation of investment advice to buy or sell stocks or any financial instrument nor is it intended as an endorsement of any security or investment, and it does not constitute an offer or solicitation to buy or sell any securities. It is not possible to invest directly in an index. There is no assurance that investment products based on the index will accurately track index performance or provide positive investment returns. Past performance is not a guarantee of future results. These materials have been prepared solely for informational purposes based upon information generally available to the public from sources believed to be reliable. The views and opinions expressed in this publication are subject to change, at any time, without advance notice or warning.