While 2022 wasn’t expected to be a stellar year for stock markets, it's turning out to be far worse than what analysts projected. U.S. stocks have crashed in January amid rate hike fears and rising geopolitical tensions. When will U.S. stock markets recover from their slump?
The tech-heavy Nasdaq is in deep correction territory. The S&P 500 also briefly entered the correction zone but eventually recovered.
Is there a dead cat bounce in stocks?
On Jan. 24, U.S. stock markets were deep in the red intraday with the Dow Jones trading over 1,000 points down. However, markets recovered and the Dow Jones, S&P 500, and Nasdaq all closed in the green. The Nasdaq, which almost fell 5 percent intraday, eventually ended the day 0.6 percent higher.
It was the biggest intraday recovery in markets since November 2008. However, not many people are convinced that it's a structural recovery. The bounce back in markets looks more like a dead cat bounce. Stock futures point to a weak opening on Jan. 25.
Why are U.S. stocks crashing?
Several factors are weighing down U.S. stocks in January. First, markets fear that the Fed might have to increase rates more than three times in 2022 to control inflation. Second, tensions between Russia and Ukraine are taking a toll on market sentiments. Markets are also worried about a growth slowdown, which was highlighted in Netflix’s earnings and Peloton’s preliminary results.
Finally, U.S. stock market valuations are running above historical levels. Low interest rates supported an expansion in multiples. Now, with the Fed looking set to increase rates as soon as March, stock multiples are also coming down towards historical levels.
How low can U.S. stocks go?
Most observers are turning bearish on U.S. stocks. Bank of America’s Michael Hartnett expects almost six rate hikes in 2022 and advises to sell any bounce in tech stocks. Morgan Stanley’s chief U.S. equity strategist Mike Wilson expects the S&P 500 to fall another 10 percent and advises investors to buy defensive stocks.
Morgan Stanley was among the most bearish brokerages heading into 2022. It had a 2022 S&P 500 target of 4,400, which was the lowest among leading brokerages. Famous investor Jeremy Grantham is also quite bearish on U.S. stocks and said that the current market is the fourth superbubble of the last century. He expects the S&P 500 to fall to 2,500.
While Grantham’s forecast is way too bearish, U.S. stocks are suffering from the dual whammy of slowing growth and rising rates. In such an environment, markets could go lower from these levels.
When will U.S. stocks recover?
A Fed rate hike isn't always followed by a stock market crash. If anything, history tells us that stocks continue to rally after the Fed starts its rate hike cycle. For example, U.S. stocks continued to rally between 2004 and 2007 and then again between 2015 and 2020 even though the Fed was raising rates.
However, the current macro environment is somewhat different. Usually, the Fed raises rates when the economic growth is strong. Looking at the current scenario, growth rates are coming down and the rate hike is intended to tame inflation, which is running at a multi-decade high.
U.S. stocks should eventually recover after the noise about rate hikes dies down. While the growth tech stocks might not recover to their all-time highs anytime soon, big tech companies, value stocks, and defensive companies should help the recovery in U.S. stock markets.