Week in Review: May 13, 2022

Despite a strong rally on Friday, in which the S&P gained 2.4%, markets ended the week lower as investors continued to grapple with concerns about surging inflation and the Federal Reserve’s efforts to combat it. Given the heightened risk for monetary policy error in the current environment, investors are also growing increasingly nervous about the possibility of a Fed-induced recession.

Inflation data pointed to a slight deceleration in both consumer and producer prices in April. The decline was consistent with our outlook at the start of the year that inflation would begin showing signs of slowing in 2Q22 as the data began to “lap” the jump in inflation that initially occurred in 2Q21.

Currently, however, that thesis is being challenged by fighting in Ukraine and strict enforcement of China’s Zero-COVID policies. Both Ukraine and Russia are leading exporters of numerous energy, agricultural, and other commodities. Reduced supplies from those countries is placing significant upward pressure on European energy prices, as well as global food prices. In China, efforts to combat the spread of the coronavirus has resulted in the lockdown of several major cities including Shanghai, whose population of 25M has been completely locked down since late March. The lockdowns are again straining global supply chains which were beginning to improve early in the year.

Recent market volatility has left the NASDAQ in correction territory (down 20% or more from record highs) and the S&P 500 close to it. The selling pressure, has also led to a marked improvement in valuations. Based on its trailing 12-month price-to-earnings (P/E) ratio, the S&P 500 is now trading slightly below its 10-year average, slightly above its 20-year average, and inline with its 30-year average. That compares to year end 2021 when the index was trading anywhere from 1.5 to 2.0 standard deviations above its 10-, 20-, and 30-year averages.