The Mother Of All Bear Markets

The bear has ended a long hibernation. After being agnostic about short term market direction last fall, I forecast “THE MOTHER OF ALL BEAR MARKETS” on January 7th. Since then, the Dow is down 8-15%, the S&P 500 is down 12-20%, and the Nasdaq is down 25-30%. Many of last years’ high-flying stocks have plunged 40%-70% wiping out years of gains. The intraday 20% S&P decline provided a base for the second bear market rally of 2022 in May. That drop marked a short-term bottom right at the cusp of an official bear market. The late May rally should be a high-water mark. Stocks could remain in a trading range between those levels for a month or two. This years’ plunge in both stock and bond prices triggered investor selling and massive losses. Investors who have stuck it out so far are unlikely to sell until they suffer much larger losses.

The bear may take a breather for a few reasons. A slowing economy is reducing corporate investment in new equipment. Some of those funds are being redeployed for share buybacks. Short term factors like the invasion of Ukraine caused consumer price inflation to peak in the first quarter at a 12% annual rate. Price hikes will continue but at a slower pace as higher prices reduce consumer demand. Mortgage rates that have already gone from 3% to 5% as bond prices plunged are unlikely to rise meaningfully in the near term, as home sales implode. The inflation reduction and soft homes sales will prevent the Fed from increasing short term rates this summer any faster than what is already priced into the bond market.

Inflation may have peaked, but will remain well above levels that prevailed for the last decade. The effects of excessive money creation, tariffs, and reduced globalization continue to drive prices higher even as the inflationary shock of the war and the Chinese lockdown wane. Corporate profits fell in Q1 as fewer businesses were able to fully pass on rising costs to consumers. Rising consumer prices are destroying demand. The squeeze on profit margins in Q2 & Q3 will trigger the next market decline by early fall. Consumers have partially offset the effects of prices rising faster than wages by increasing credit card debt and spending their accumulated savings. Despite that, price hikes have outpaced sales growth.