April was a hard month for the markets. For the month, U.S. markets were down between 5 percent for the Dow and 14 percent for the Nasdaq, and international markets fell between 5 percent and 7 percent. Fixed income was also down for the month—there was truly nowhere to hide.
Looking Back
Interest rates. Overall, rising interest rates drove the poor performance. With inflation holding at a 40-year high, the Fed signaled that it intended to keep tightening monetary policy. This drove interest rates higher around the world, shaking financial markets. Higher interest rates mean lower present values for future earnings, and growth stocks were hit the hardest, as shown in the Nasdaq results last month. The question is whether or not that trend will continue in May.
Looking Ahead
Economic health. May is likely to be better than April for several reasons. First, the economic news remains positive. Hiring is strong and supports consumer confidence and spending growth, and business confidence and investment remain healthy as well. While the economy contracted in the first quarter, that contraction had more to do with imports and exports and less with the fundamentals of jobs and wages, which remain solid. This should be a one-time hit, as the economic fundamentals continued moving forward last month.
Inflation. Along with the continued high inflation we saw in April, economic growth is what drove the rate increases. But there is good news for May: inflation is showing signs of peaking, and rate increases now appear to be fully priced in. Much of the bad market news in April is already priced in, leaving room for better performance in May.
Earnings and market valuations. As those increases are priced in, the valuation drop will start to be offset by expected earnings growth. As we enter May, analysts are indeed raising their earnings growth estimates. Higher interest rates meant lower stock prices in April, but as painful as this was, it set the stage for growth to resume in May and beyond.
