rising inflation

rising inflation

1Q22 MARKET OVERVIEW

After an exceptional year, volatility and headline risk resurfaced. In March, U.S. inflation reached a 41-year high of 8.5% on a year-over-year basis as gasoline, food and rent increases put upward pressure on consumer spending. To combat inflation, the Federal Reserve provided sharper insight into removing stimulus and raising interest rates. The Fed news eased fears a bit and helped the markets recover some of the lost ground in March. In the end, most major equity and bond indices posted negative returns except for commodities.

Moving forward, attention will continue to focus on equity market valuations and whether corporate profits and economic growth can keep pace with projections. Besides a potential resurgence in Covid-19 cases, visible challenges include elevated inflation, how the war in Ukraine unfolds, pace of interest rate increases and tighter monetary policy. Regardless of the market direction, our disciplined process will utilize market changes to shift towards our target allocations in the most tax-efficient manner possible while maintaining your desired risk level and fulfilling your cash flow requirements.

U.S. Equity Markets

U.S. equity markets finished the quarter with a -5.3% loss for the Russell 3000. Higher inflation, geopolitics, persistent supply chain issues, tighter monetary policy guidance and rising interest rates were consistent headwinds. Volatility and equity price pressure briefly faded in March after the coordinated efforts to impose crushing economic sanctions on Russia. This organized approach provided a boost to markets and the Ukrainians resolve to fight for their freedom. Although there were many distractions to start the year, the U.S. economy remained stable as 431,000 jobs were added in March and the unemployment rate dropped slightly to a six-decade low of 3.6%. To help rein in inflation, the Federal Reserve raised interest rates for the first time in almost four years. This was consistent with Jerome Powell’s guidance since last winter and the markets rallied in March to bounce back from the 13% quarterly low point. As we progress, focus will once again turn to corporate profit margins and whether U.S. companies can overcome challenges to produce growth and stable profits for investors.

International Equity Markets

International developed equity markets finished the quarter with a -5.9% loss for the MSCI EAFE. After a strong start to the new year, Eurozone equity markets fell sharply after Ukraine was invaded given the regions reliance on Russian oil and gas. Uncomfortable inflation, elevated energy prices and supply concerns in Europe could suppress business and consumer demand and curtail economic growth. With minimal economic ties to Russia, Japan weathered the geopolitical uncertainty much better than other countries. An unexpected decline in the yen motivated the Bank of Japan to initiate a late quarter bond buying program to keep bond yields low. The MSCI emerging markets lost -7.0% during the quarter with China accounting for most of the underperformance. China’s deficit was more directly correlated to the spike in Covid-19 cases and regulatory issues tied to U.S.-listed Chinese equities rather than the typical concerns other countries were facing. Both developed and undeveloped international markets look more attractive from a valuation perspective compared to U.S. markets.

Fixed Income Markets

Safety-minded investors experienced disappointing results as the closely watched Barclays Aggregate lost -5.9% during the quarter as interest rates drifted higher. Due to persistent inflation and tight labor conditions, the Federal Reserve warned that higher rates were going to be a reality sooner than originally communicated until inflation was under control. This guidance resulted in a rare and painful quarter where just above every major Bloomberg U.S. and Global fixed income indices finished the quarter with negative returns. In anticipation of higher rates, the 10-year Treasury yield rose from 1.52% on December 31 to 2.32% on March 31 and delivered the worst quarterly return since 1980. Given the quick spike in interest rates, it is not surprising to experience corresponding negative quarterly returns. The Barclays US Government Long posted a -10.6% loss, Intermediate -4.2% loss and Short -2.5% loss. In the international fixed-income arena, the JPM Non-US Unhedged lost -7.1% under the weight of a stronger U.S. dollar. The Barclays Municipal also retreated -6.2% since there was nowhere to hide after bond prices reset lower to factor in higher yields.

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