March 1, 2022

Market Commentary: Geopolitics and the Market

The current volatility in the market has some investors understandably on edge. Markets were already drifting lower on a myriad of concerns - stretched valuations, broad-based inflation, rising rates and a hawkish Fed - when the exogenous geopolitical shock of Russia invading Ukraine sent the S&P 500 technically into correction territory for the first time since March 2020. The concerted sell-off in worldwide equity markets was indiscriminate and investors flocked to the safety of US Treasuries, the dollar and gold. While market correction is disconcerting, corrections are a normal occurrence in a well-functioning market. As seen below, despite intra year double-digit declines, annual returns were positive 76% of the time over 42 years.


S&P intra-year declines
Recent developments in Ukraine have market participants questioning the Federal Reserve’s resolve to tighten monetary policy.
With CPI up 7.5% YOY and Core PCE, the Fed’s preferred inflation gauge, up 5.2% YOY, inflation readings are hot. With an economy lacking any current recession indicators, we believe the Fed remains on course to raise the Fed funds rate at their March meeting; commencing the move to normalize interest rates and tighten financial conditions.
Under review, however, is the magnitude and pace of future rate hikes. Consensus for a 50 basis point rate hike at its March meeting has been replaced with a more modest expectation of 25 basis points and an even more data-dependent Federal Reserve watching how the unfolding geopolitical events impact inflation and economic growth.
The sanctions aimed at choking off Russia’s economy will negatively affect European economies which rely heavily on imports of Russia’s oil and gas in their countries. US economic fundamentals remain solid with household and corporate balance sheets in great shape, job openings plentiful and consumers and businesses alike increasing their spending. But additional upward pressure on commodity prices, ranging from precious metals to agriculture to oil, may become an economic headwind in the future.
S&P 500 companies, having limited direct exposure to Russia and Ukraine, are not pricing in a meaningful impact to earnings, leaving corporate profitability intact. But the burden of rising energy prices would add to inflationary pressures for companies as well as consumers, with concerns on how higher oil and gas prices might crowd out discretionary spending on other goods and services, thereby slowing overall economic activity.
In the wake of growing political and global economic uncertainty, it is important to remind ourselves to stay invested and to stick to our investment plan: a plan devoid of the emotions being felt today and driven by a calmer, rational thought process. History shows that while geopolitical crises can lead to short-term volatility and market sell-offs, they typically do not have long-term consequences for investors, especially if the economic backdrop is solid.


How do stocks do after major events
The S&P recaptured all of the earlier week’s sell-off on Thursday and Friday, finishing higher on the week and reaffirming why we do not try to time the market. Moving to the sidelines on initial fears can severely impact long-term performance since some of the best days in market are generally clustered around the worst. With the fluid and tenuous geopolitical situation unfolding, a sustainable rally seems premature.  
Our investment team continues to monitor the events as they unfold and assess the impact to the market and the economy.  If you have particular questions or concerns about your portfolio, please contact your Investment Officer. As always, we’re here to help. 

These facts and opinions are provided by the Cape Cod 5 Trust and Asset Management Department.  The information presented has been compiled from sources believed to be reliable and accurate, but we do not warrant its accuracy or completeness and will not be liable for any loss or damage caused by reliance thereon.  Investments are NOT A DEPOSIT, NOT FDIC INSURED, NOT INSURED BY ANY FEDERAL GOVERNMENT AGENCY, NOT GUARANTEED BY THE FINANCIAL INSTITUTION AND MAY GO DOWN IN VALUE.

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