Global equities (as measured by the MSCI AC World index) gained 1.6% last week – hitting an all-time high. In the U.S., the S&P 500 jumped 2.0% while the NASDAQ surged by 3.1% as interest rates fell. Non-U.S. markets also performed well with European stocks gaining 1.5% as the Bank of England held off on raising rates. Emerging Market stocks were largely unchanged. The 10-year U.S. Treasury yield fell from 1.55% to 1.45% by the end of the week.
As expected, the Federal Reserve decided to begin tapering the pace of its bond purchases by $15 billion a month. Importantly, the Fed kept the door open to adjusting the pace beyond December. Presumably, the Fed could accelerate the pace of reductions should inflation remain more persistent than hoped for. While inflation may indeed remain “higher for longer,” we still agree with the Fed that inflation should moderate in 2022 as supply bottlenecks eventually ease and the fiscal policy-induced consumer demand of 2020 continues to normalize.
The U.S. economy added 531, 000 jobs in October and the unemployment rate fell from 4.8% to 4.6%. If this pace of gains can be sustained, U.S. employment level would be back to its pre-pandemic level by about June 2022. This conveniently aligns with when the Fed is expected to end its bond purchase program and when the market thinks the Fed may start to hike rates.
Shawn Snyder
Head of Investment Strategy,
Citi Personal Wealth Management
Last Week's Closeof the main usa stock market indices
S&P 5004,698
(2.0%index change up 2.0 percent from last week)
DJIAdow jones industrial average36,328
(1.4%index change up 1.4 percent from last week)
NASDAQ15,972
(3.1%index change up 3.1 percent from last week)
The Week in Review
The House of Representatives passed a more than $1 trillion bipartisan infrastructure bill, sending it to President Biden for his signature. The measure, already approved in the Senate, marks the first milestone of President Biden’s heavy economic agenda. 13 Republicans voted in favor for the bill while six Democrats voted against it. The bill authorizes current spending and commits $550 billion in new spending to improve roads, bridges, highways, overhaul the electric grid, and other such projects. Electric vehicle stocks may be a beneficiary of the Infrastructure Investment and Jobs Act with $7.5 billion slotted for electric charging stations.
The larger Build Back Better bill has yet to be passed.
The United States is about to lift its nearly 20-month international travel ban. International visitors from more than 30 countries will now be able to visit the U.S.; however, there will be new rules that replace the ban, including requiring international visitors to show proof of vaccination and a recent negative Covid test. One major airline reported that it expects 50% more international inbound passengers from a week earlier as the restrictions ease. Airfare tracking site Hopper has said that international flights searches have more than quadrupled since the Administration said in September that it would lift the ban.
Higher for Longer?
A few years ago, the buzz on Wall Street was “lower for longer,” with many investors expecting global bond yields to remain low for the indefinite future. Now, investors are essentially talking about “higher for longer,” with some investors expecting inflation to remain elevated and persistent. This should in theory lead to significantly higher interest rates and yet the 10-year U.S. Treasury yield is at just 1.48%. While the bond market may be predicting a Fed liftoff (or first rate hike) by mid-to-late 2022 (see figure 1), it does not appear to be aggressively pricing in future growth and inflation. We largely agree with the Fed and expect inflation to moderate in 2022. However, it may take some time for supply bottlenecks and price pressures to ease as exporters work to replenish inventories and for consumer demand to normalize post-covid fiscal stimulus.
Figure 1: Number of Fed Rate Hikes Expected By September 2022
This line chart shows the number of Fed rate hikes expected by September 2022. Markets are pricing in at least one rate hike by September 2022.
Sources: Bloomberg and Citi U.S. Wealth Management as of November 8, 2021. Note: This data represents the estimated number of moves priced into the current forward-curve structure for the U.S. using the futures model. All forecasts are expressions of opinion and are subject to change without notice and are not a guarantee of future events.
Fed Chair Powell acknowledged this at the November Federal Open Market Committee (FOMC) meeting by saying, “Our baseline expectation is that supply bottlenecks and shortages will persist well into next year and elevated inflation as well. And that, as the pandemic subsides, supply chain bottlenecks will abate and job growth will move back up. And as that happens, inflation will decline from today’s elevated levels. The timing of that is highly uncertain, but certainly we should see inflation moving down by the second or third quarter.” It is a bit odd to use both “highly uncertain” and “certainly” in the same sentence, but we think the key takeaway is that the Fed still believes that inflation is primarily linked to covid-related distortions and not a permanent condition that will require the Fed to act aggressively.
Apart from slight language changes, the Fed did exactly what the market expected it to do by announcing that it will start to taper its bond purchases by $15 billion a month which will be split between $10 billion in U.S. Treasuries and $5 billion of agency mortgage-backed securities. This move was widely telegraphed. As it stands now, the Fed is on track to end all bond purchases by mid-2022. However, the Fed did say that the current pace of reductions has only been ordered for November and December. That means that the pace could adjusted beyond that timeframe. This could mean that the Fed might stop reducing the pace of purchases should the economy show signs of weakness, but we think it is more likely meant to keep the door open should the Fed want to accelerate the wind down.
One reason the Fed may want to do this is to have more flexibility on interest rates come mid-summer should inflation not show signs of easing. Thus far, the Fed has expressed that it intends to remain patient when it comes to rate hikes, but Chair Powell did also say that the Fed will not hesitate to use its tools to fight inflation if it’s needed. Importantly, the Fed alone cannot solve supply bottlenecks, but it can cool consumer demand through higher interest rates if it is needed. We doubt that this is the most likely scenario, but it is possible if the Fed does eventually become convinced that it is indeed “behind the curve” on inflation.
At the end of the day, it is encouraging that the equity market took the Fed’s tapering announcement in stride, but the debate over the timing of the next rate hike is likely to remain a hot topic heading into 2022 with the market looking for four to five rate hikes by the end of 2023. In the meantime, the Fed continues to urge patience and says that the bar for rate hikes is substantially higher than that of tapering. It looks like the complex dance between market expectations and the Fed’s policy prescription will continue for some time. We should also highlight that Fed Chair Powell’s term is set to expire in February 2022. It seems like the odds favor his reappointment with betting market PredictIt.org putting the odds of Chair Powell being renominated at 79% and the odds of Fed Governor Leal Brainard being appointed at 22%, but there is always a chance that President Biden will decide to make his mark on the Fed. Current Fed Governor Randal Quarles has also stated that he intends to resign his position around the end of this year. In theory, potential changes to the Board’s composition could impact both market expectations and Fed policy.
Away from the Fed, the Labor Department reported that the U.S. economy added 531,000 jobs during the month of October. So far this year, monthly job gains have averaged 582,000 jobs so this report is pretty much right in line. If the economy continues this monthly pace of job gains, then the economy would be back to its pre-pandemic employment level by about June 2022 (see figure 2), which of course is when the Fed will most likely end its bond purchase program. The previous two months were also revised upward by 235,000 and the unemployment rate fell from 4.8% to 4.6%. All-in-all, the strong report supports the Fed’s decision to start tapering.
Figure 2: U.S. Jobs Deficit Since February 2020 (Thousands)
This line chart shows the U.S. Jobs Deficit Since February 2020. After a steep drop in March and April 2020, there has been a steady return to job positions filled. As of October 2021, there is still a deficit of 4.7 million jobs from February 2020.
Sources: Haver Analytics and Citi U.S. Wealth Management as of 3Q 2021. Note: The dashed red line represents the projected path of employment if monthly gains continue at a 582,000 monthly pace. All forecasts are expressions of opinion and are subject to change without notice and are not a guarantee of future events.
Lastly, Citi Global Wealth’s Global Investment Committee decided to reduce its overweight to global equities from +8.0% to +6.0% and to reduce its underweight to fixed income and cash from -8.0% to -6.0%. There were several regional adjustments, but the overarching theme is that the Committee expect returns to moderate in 2022.
With U.S. bond markets now pricing in 4 to 5 rate hikes by the end of 2023, the valuations of intermediate-duration U.S. treasuries, investment grade corporate, and some municipal debt have improved and can be used as risk hedges, so the Committee added 1.0% to intermediate-duration Treasuries and U.S. investment grade. With cash at a -1.0% underweight, that puts the fixed income and cash portfolio weighting at -6.0%.
On the equities side, the Committee decided to slightly reduce its overweight to global equities by lowering the overweights to DM large cap Asia ex China by -0.5%, EM Asia ex China by 0.2%, UK large cap equities -0.3%, Europe ex UK ex Switzerland large cap by -0.2%, and global healthcare shares by -1.0%. This move acknowledges that the Chinese economy may slow in the quarters ahead, which could weigh on trade-linked regions and also a move towards less cyclical, higher quality assets as the initial reopening surge starts to normalized further.
Market Indicators
Figure 3: U.S. Stock Market Returns and Select Assets
Index
Weekly Chg (%)change in percent
YTD (%)year to date change in percent
12 Months (%)12 month change in percent
Div. Yield (%)division yield in percent
Dow Jones
1.4
18.7
28.0
1.7
S&P 500
2.0
25.1
33.8
1.3
NASDAQ
3.1
23.9
34.3
0.6
Instrument
Weekly Chgchange
YTDyear to date
12 Months12 month change
Level
10-Year Treasury Yield (%)
-10 bps
53.8 bps
68 bps
1.45%
Gold ($/Oz.)
2.0%
-4.2%
-6.7%
$1,818.4
Oil ($/bbl)
-2.8%
67.5%
109.5%
$81.27
❮ Swipe left for more
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 4: International Stock Market Returns
Index
Weekly Chg (%)change in percent
YTD (%)year to date in percent
12 Months (%)12 month change in percent
Div. Yield (%)division yield in percent
Global
1.6
17.2
28.0
1.7
Europe
1.5
14.4
28.6
2.7
Japan
2.7
3.4
14.6
2.0
Emerging Markets
0.0
-0.3
10.6
2.4
❮ Swipe left for more
This table shows the percent changes of stock market returns for Global, European, Japanese and Emerging Markets, over weekly, year-to-date and 12 month periods.
Sources: Bloomberg and Citi U.S. Wealth Management as of November 5, 2021. 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 5: U.S. The Week Ahead
Date
Time
Event
Period
Surv(M)
Prior
11/9
6:00
NFIBNational Federation of Independent Business Small Business Optimism
October
99.5
99.1
11/10
8:30
CPIConsumer Price IndexYoYyear on year
October
5.9%
5.4%
11/10
8:30
CPIConsumer Price Index Ex Food and Energy YoYyear on year
October
4.3%
4.0%
11/12
10:00
JOLTSJob Openings and Labor Turnover Survey Job Openings
September
10350kthousand
10439kthousand
11/12
10:00
U of Mich.University of Michigan Sentiment
November
72.5
71.7
This table lists a number of key economic events, analysis reports and forecasts from influential institutions.
The October CPI print will be closely watched.
Sources: Bloomberg and Citi U.S. Wealth Management as of November 5, 2021
Shawn Snyder
Head of Investment Strategy,
Citi Personal Wealth Management