Markets are having a pretty tough time at the moment. Year-to-date, the S&P 500 is down over 15%. Even worse is the Nasdaq, down 23% so far in 2022. With the two largest stock indexes in the world both down in double-digits in 2022, is the stock marking crashing? I think not.
Why markets are struggling
In order to fully understand the situation, we need to employ a little macroeconomics.
When the Covid-19 pandemic struck – and the market really did crash – governments across the world quickly acted with fiscal stimulus. That is, they poured money into the economy. They also cut interest rates with the aim of spurring spending to keep consumer confidence in the economy high. This worked in the short term, with the S&P and Nasdaq climbing back 20% in the 30 days after markets initially crashed.
However, investors soon began to take advantage of these low rates, searching for higher and higher returns. Markets surged as a consequence, with growth stocks substantially moving beyond their fundamental values. At the same time, people had more money to spend, and as a consequence of basic supply and demand, prices rose.
Fast-forward to 2022 and we now have steep inflation. The UK government keeps to a strict 2% inflation target, but in April the Consumer Price Index rose by 7.8% year-on-year. This is being repeated across the globe, with US inflation hitting 8% in April. To control inflation, banks contract the economy by raising interest rates. This is bad news for stocks, as people keep less liquid cash because they can achieve higher returns on savings.
In my opinion, the recent hike in interest rates in the UK and US is one of the reasons why markets have contracted. But stocks are simply moving back to their fundamental value – and I feel this is nothing to be worried about.
What about UK markets?
Markets have taken a hit in the US, but in the UK, the FTSE 100 seems to be holding strong. It’s up 0.8% year-to-date, and an impressive 6.4% in the last six months. Over the last 12 months, the index has returned over 7.7%. Adding in the 4% dividend yield, this takes yearly returns to just under 12% – not bad at all. There are many UK value stocks, like BT, Vodafone, and Legal & General that have performed well over the last 30 days.
Therefore, although US markets have dropped, the situation in the UK seems to be better. Interest rates are likely to keep rising in the near future, so things might get worse for US markets, but in my opinion, this doesn’t warrant the use of the phrase ‘stock market crash’ (even less so as far as the UK is concerned).
I think that US markets are just experiencing a reality check. Super-high valuations have been the norm for the last 18 months, and rising interest rates are starting to cool things off. As stocks return to their fundamental value, I will be keeping a keen eye out for some bargains to add to my portfolio.