Are We There Yet?

Weekly Market Update | May 24, 2022

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Highlights

The global equity market slid for a seventh consecutive week with the MSCI AC World Index falling 1.2%. In the United States, the tech-heavy NASDAQ dropped 3.8% while the S&P 500 closed the week 3.1% lower. Markets overseas performed better with European stocks climbing 0.9% and Japanese stocks rising 1.19%. Emerging market stocks jumped 3.1% as the MSCI China index surged 4.5%. The nominal 10-year U.S. Treasury yield continued to retreat – falling another 13-basis-points to 2.78%.

U.S. stocks are pricing in a future slowing in the economy. This is not surprising given that the Federal Reserve is literally telling investors that it intends to slow the economy in order to combat inflation. The well-used motto, “Don’t Fight the Fed” seems an apt description…particularly when it is still punching (tightening monetary policy).

However, we feel confident that much of this drawdown is likely behind us. Excluding the Tech Bubble and Global Financial Crisis, past S&P 500 drawdowns around periods of U.S. recessions have been around 24.0%. Traditional signs of capitulation have yet to be reached, but financial markets appear to be getting ever closer.

The next Weekly Market Update will be published June 6, 2022. We hope everyone enjoys their Memorial Day holiday!

Shawn Snyder Head of Investment Strategy,
Citi Personal Wealth Management

Last Week's Close

S&P 500 3,901 ()

dow jones industrial average 31,262 ()

NASDAQ 11,355 ()

Are We There Yet?

If the Federal Reserve did not have investors’ attention, it likely does now with the S&P 500 briefly dipping into bear market last Friday before staging a late-day rally (a bear market is defined as a sell-off that is over 20%). Traditionally, bear markets are accompanied by a recession. In this case, equity markets are already pricing in a slight-to-modest contraction in the U.S. economy even though second quarter real GDP is tracking at about 2.4% and the unemployment rate sits at just 3.6% (see figures 1-2). A “hard landing” for the economy does not yet appear to be priced in.

Figure 1: ... — Figure 1. S&P 500 (YoY%) vs ISM Manufacturing

Figure 2: ... — Figure 2. Atlanta Fed's Real GDP Now Estimate for 2Q 2022

The reason U.S. stocks are pricing in a slowdown in the economy is because the Federal Reserve is essentially telling investors that it intends to weaken the economy by tightening financial conditions in order to combat elevated inflation. This was confirmed last week when Fed Chair Powell said that “This is not a time for nuanced readings of inflation. We need to see inflation coming down in a convincing way. Until we do, we’ll keep going.”¹. This commitment has left investors wondering just how far the Fed will go and how deep will the stock market sell-off end up being?

We completely acknowledge that we don’t know the exact answer to that question (and would argue that no one does). To say differently would be dishonest in our opinion, but we can use historical patterns around previous recessions and signs of investor capitulation (when investors have decided to stop trying to recapture lost gains as a result of falling stock prices) as a potential guide.

¹ https://www.wsj.com/articles/feds-powell-to-take-wsj-questions-on-inflation-and-economic-outlook-11652779802

When we look at recessions since 1945, the S&P 500 has experienced an average drawdown of 28.4%. Though that average is skewed by several “mega” sell-offs like the Tech Bubble of 2000-2001 and the Global Financial Crisis of 2008-2009, when stocks sold-off by an average of 53.0%. Technically, that type of sell-off should be considered the absolute floor (see figure 3). However, that would put the index back at March 2020 levels, which was the height of the COVID-19 pandemic when unemployment shot up to 14.7%% and the S&P 500 was trading around 2,250. That doesn’t make sense to us.

Figure 3. Historical S&P 500 Drawdowns and Subsequent Returns Around U.S. Recessions

Periods of U.S. Recession			S&P 500 Drawdowns			S&P 500 Returns After Trough
Economic Peak	Economic Trough	Months of Contraction	S&P 500 Peak	S&P 500 Trough	% Decline	12 Months	18 Months	24 Months	Second Year Gain/Loss
Feb-45	Oct-45	8	18.7	16.81	-10.1%	-16.1%	1.0%	-0.6%	15.5%
Nov-48	Oct-49	11	17.06	13.55	-20.6%	29.2%	6.4%	11.6%	-17.6%
Jul-53	May-54	10	26.66	22.71	-14.8%	37.7%	53.9%	98.1%	60.4%
Aug-57	Apr-58	8	49.13	38.98	-20.7%	31.1%	48.1%	43.6%	12.5%
Apr-60	Feb-61	10	60.71	52.48	-13.6%	26.9%	33.5%	7.2%	-19.7%
Dec-69	Nov-70	11	108.37	69.29	-36.1%	43.7%	30.1%	59.4%	15.7%
Nov-73	Mar-75	16	120.24	62.28	-48.2%	38.0%	64.2%	67.0%	29.0%
Jan-80	Jul-80	6	118.44	98.22	-17.1%	37.1%	17.1%	14.3%	-22.8%
Jul-81	Nov-82	16	140.52	102.42	-27.1%	58.3%	51.7%	61.5%	3.2%
Jul-90	Mar-91	8	368.95	295.46	-19.9%	29.1%	35.6%	37.9%	8.8%
Mar-01	Nov-01	8	1527.46	776.76	-49.1%	33.7%	46.8%	44.5%	10.8%
Dec-07	Jun-09	18	1565.15	676.53	-56.8%	68.6%	63.2%	95.1%	26.5%
Feb-20	Apr-20	2	3393.52	2191.86	-35.4%	74.8%	98.8%	99.1%	24.3%
Average Duration:		10 Months	Average (Decline / Gain):		-28.4%	37.9%	42.3%	49.1%	11.3%
			Excluding the Tech Bubble and Global Financial Crisis:		-24.0%	35.4%	40.0%	45.4%	9.9%

This table shows S&P Drawdowns and the returns after trough for past periods of U.S. recessions.

Sources: Haver Analytics and Citi Global Wealth Investments as of April 2022. An investor cannot invest directly in an index. They are shown for illustrative purposes only and do not represent the performance of any specific investment. Index returns do not include any expenses, fees or sales charges, which would lower performance. Past performance is not a guarantee of future results.

If we exclude the “mega” sell-offs of the Tech Bubble and the Global Financial Crisis, which seem like inappropriate comparisons, the bulk of recessions since 1945 saw an average drawdown of 24.0%. That would leave the S&P 500 around a level of 3,650. Again, we don’t know when the market sell-off will end, but that level would line up with historical patterns and potentially signal that a U.S. recession in 2023 or 2024 has been largely priced in. Though we wouldn’t be all the that surprised if the market finds a bottom above that level should economic data hold up and the Federal Reserve eventually communicate that it may pause in September to reassess the economic outlook.

What Should Investors Watch for Signs of Capitulation?

There are several potential capitulation indicators, but the Chicago Board of Exchanges Volatility Index (VIX) stands out as a relatively easy one to follow. In 1998, 2002, 2009, and 2020, the VIX jumped to above 40 before market volatility faded substantially (see figure 4). Again, we don’t think those periods are the best comparisons to today’s environment with less signs of economic excess currently (consumer debt levels are not at extreme levels, the banking system is well-capitalized, and many large technology companies have substantial earnings and strong balance sheets), but a more substantial spike in the VIX may be a sign of investor capitulation.

Another common metric that is often watched is the percentage of stocks that are trading below their 200-day moving average. Traditionally, capitulation has been reached once 80% to 90% of the New York Stock Exchange (NYSE) is trading below its 200-day moving average. Right now, 75% of the NYSE is trading below, which could mean that we still have a bit further to go if economic data and corporate profits start to weaken more materially (see figure 5).

Is There Any Good News?

We could argue that there are a couple of reasons to be optimistic: 1) the positive correlation between stocks and bonds appears to be breaking down and 2) the recoveries that follow bear markets tend to be lengthy and substantial. For most of this year, stock and bond returns have been falling in unison with stocks declining as bond yields rise. The result was weakened portfolio diversification. However, that correlation has broken down over past few weeks with the 10-year U.S. Treasury yield dropping from about 3.13% on May 6th to 2.86% currently. That means that bonds have once again been working as a safe-haven and are providing some portfolio diversification (see figure 6).

More important than this recent breakdown is the potential for the recovery to be lengthy and substantial. Going back to 1932, the average bear market recovery has lasted well over 600 days and returned an average of 102.1% from trough to peak (see figure 7). This is why we frequently remind investors that “time in the market is more important than timing the market.”

Figure 6: ... — Figure 6. 10-Year U.S. Treasury Yield vs Total Return Index

To bring home this point, consider that when the NASDAQ bottomed out after the Global Financial Crisis, very few investors felt confident about the future and yet it proved to be a wise entry point for long-term investors (see figure 8). We continue to encourage investors to not lose focus of their long-term goals because of volatility over the near-term.

Figure 7. S&P 500 Bear Market Recoveries

Trough		Peak		Trough to Peak %	Number of Days
Date	Level	Date	Level	Trough to Peak %	Number of Days
06/01/1932	4.41	09/07/1932	9.31	111.14%	82
02/27/1933	5.53	07/18/1933	12.20	120.73%	110
10/21/1933	8.56	02/05/1934	11.81	37.94%	88
03/14/1935	8.06	03/06/1937	18.68	131.72%	596
03/31/1938	8.50	11/09/1938	13.79	62.22%	186
04/08/1939	10.19	10/25/1939	13.21	29.67%	168
06/10/1940	8.99	11/09/1940	11.40	26.75%	128
04/28/1942	7.47	05/29/1946	19.25	157.70%	1212
05/17/1947	13.72	06/15/1948	17.07	24.43%	304
06/13/1949	13.55	08/02/1956	49.75	267.10%	1890
10/22/1957	38.98	12/12/1961	72.64	86.35%	1043
06/26/1962	52.32	02/09/1966	94.06	79.78%	914
10/07/1966	73.20	11/29/1968	108.37	48.05%	517
05/26/1970	69.29	01/11/1973	120.24	73.53%	666
10/03/1974	62.28	07/15/1975	95.61	53.52%	197
09/16/1975	82.09	09/21/1976	107.83	31.36%	258
03/16/1978	89.51	10/05/1979	111.27	24.31%	395
11/07/1979	99.87	11/28/1980	140.52	40.70%	268
08/12/1982	102.42	08/25/1987	336.77	228.81%	1274
12/04/1987	223.92	07/16/1990	368.95	64.77%	660
10/11/1990	295.46	07/17/1998	1186.75	301.66%	1963
08/31/1998	957.28	03/24/2000	1527.46	59.56%	396
10/09/2002	776.76	10/09/2007	1565.15	101.50%	1257
03/09/2009	676.53	09/20/2018	2930.75	333.20%	2403
12/24/2018	2351.10	02/19/2020	3386.15	44.02%	394
03/23/2020	2237.40	01/03/2022	4796.56	114.38%	454
Average				102.11%
Standard Deviation				87.63%
Average # of Days				686

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This table shows S&P 500 Corrections & Bear Markets Since 1932. Bear markets are often followed by lengthy recoveries.

Sources: Haver Analytics and Citi Global Wealth Investments as of January 3, 2022. An investor cannot invest directly in an index. They are shown for illustrative purposes only and do not represent the performance of any specific investment. Index returns do not include any expenses, fees or sales charges, which would lower performance. Past performance is not a guarantee of future results.

Figure 8: Major U.S. Stock Index Losses from Recent Highs and Returns from the Global Financial Crisis' Bottoms on March 9, 2009

Stock Market Index	Date of Last Record High	Percent Change from Record High	Percent Change from Global Financial Crisis Bottom (March 9, 2009 to May 23, 2022)
NASDAQ Composite	11/19/2021	-28.2%	809.3%
Russell 2000	11/18/2021	-27.4%	416.6%
S&P 500	1/3/2022	-17.2%	487.4%
Dow Jones Industrial Average	1/4/2021	-13.4%	386.9%

This table describes the major U.S. stock index Losses from recent highs and returns from the global financial Crisis' bottoms on March 9, 2009

Sources: Haver Analytics and Citi Global Wealth Investments as of May 23, 2022. An investor cannot invest directly in an index. They are shown for illustrative purposes only and do not represent the performance of any specific investment. Index returns do not include any expenses, fees or sales charges, which would lower performance. Past performance is not a guarantee of future results.

What Should U.S. Investors Watch in the Week Ahead?

Investors will get a fresh read on new home sales, which are expected to fall by about 1.7%, we will get the May Federal Open Market Committee meeting minutes, and the April personal consumption expenditure (or PCE) deflator index, which is an inflation metric that the Fed watches closely. The consensus is expecting the PCE deflator to drop from 6.6% year-on-year to 6.2%. That will be released on Friday and might end up being the key event of the week.

Market Indicators

Figure 9: U.S. Stock Market Returns and Select Assets

Index	Weekly change in percent	year to date change in percent	12 month change in percent	division yield in percent
Dow Jones	-2.9%	-14.0%	-8.3%	2.1%
S&P 500	-3.0%	-18.1%	-6.2%	1.6%
NASDAQ	-3.8%	-27.4%	-16.1%	0.9%
Instrument	Weekly change	year to date	12 month change	Level
10-Year Treasury Yield (%)	-13 bps	127.1 bps	115 bps	2.78%
Gold ($/Oz.)	1.9%	0.9%	-1.6%	$1,846.5
Oil ($/bbl)	2.5%	47.1%	82.5%	$113.23

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This table shows returns for various USA equity markets and select assets, in weekly, year-to-date and 12 month changes. Strong corporate earnings are bolstering the equity market.

Figure 10: International Stock Market Returns

Index	Weekly change in percent	year to date in percent	12 Months	division yield in percent
Global	-1.2%	-17.6%	-11.3%	2.2%
Europe	0.9%	-17.3%	-14.9%	3.4%
Japan	1.9%	-15.7%	-15.3%	2.5%
Emerging Markets	3.1%	-15.4%	-20.3%	2.9%

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This table shows the US Stock Market Returns and Select Assets and International Stock Market Returns

Sources: Bloomberg and Citi U.S. Wealth Management as of May 20, 2022. Note 1 (Equities): Global = MSCI All Country World Index (USD); Europe = MSCI Europe (USD); Japan = MSCI Japan (USD); Emerging Markets = MSCI Emerging Markets (USD). The equity index returns shown here are based in U.S. dollars. Returns for a non-U.S.-based investor can differ significantly depending on the effects of foreign currency exchange. Note 2 (Instrument): Gold = U.S. dollars per Troy ounce; Oil = West Texas Intermediate crude at Cushing, OK. Indices are unmanaged. An investor cannot invest directly in an index. They are shown for illustrative purposes only and do not represent the performance of any specific investment. Past performance is not indicative of future returns. Real results may vary.

The Week Ahead

Figure 12: U.S. The Week Ahead

Date	Time	Event	Period	Consensus	Prior
5/24	10:00	New Home Sales	April	750 thousand	763 thousand
5/25	8:30	Durable Goods Orders	April	0.6%	1.1%
5/25	14:00	federal open market committee Meeting Minutes	5/4/2022	n/a	n/a
5/27	8:30	Advance Goods Trade Balance	April	-$114.8 billion	-$125.3 billion
5/27	8:30	Personal Income	April	0.5%	0.5%
5/27	8:30	Personal Spending	April	0.7%	1.1%
5/27	8:30	Real Personal Spending	April	0.7%	0.2%
5/27	8:30	Retail Inventories Month over Month	April	2.0%	2.0%
5/27	8:30	personal consumption expenditures Deflator year on year	April	6.2%	6.6%
5/27	8:30	personal consumption expenditures Core Deflator year on year	April	4.9%	5.2%
5/27	10:00	University of Michigan Sentiment	May F	59.1	59.1

This table lists a number of key economic events, analysis reports and forecasts from influential institutions.

Sources: Bloomberg and Citi Global Wealth Investment as of May 20, 2022.

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Highlights

Are We There Yet?

Market Indicators

The Week Ahead

Watch Video

Mid-Year Outlook 2022 Webcast with Shawn Snyder and Kris Bitterly (57:42)