If you spent December reading or listening to the financial experts making forecasts for the year ahead, you could draw five conclusions about what to expect in 2022.
We’ll see heightened inflation, higher interest rates, increased volatility, slower growth and lower investment returns.
The specific predictions weren’t uniform or in complete agreement — it’s hard to get a straight, detailed opinion out of market forecasters and economists — but those five conditions are the ones that nearly everyone is expecting.
What those five agenda items have in common is that they represent a change from what investors have become used to since the start of the pandemic, during the long-running bullish cycle, over the long term and, in some cases, in a lifetime.
With that in mind — and with uncertainty making investors and consumers nervous — let’s examine the conditions most commonly forecast for 2022 and how you might react to each of them.
Heightened inflation: A year ago, a few forecasts were calling for higher inflation, but most were suggesting it would be close to 2%. When inflation hit 7% in 2021, those “correct” forecasts showed just how inadequate they were.
Throughout 2021, market observers weren’t reacting too strongly to inflation because they expected higher prices to be “transitory,” a side effect of global supply-chain struggles. That label has now been removed; inflation will moderate downward from current levels, but higher inflation is here for a while.
Investors haven’t factored inflation into their picture for years, but now assets like inflation-protected securities and exchange-traded funds that hedge inflation are a sound diversification decision. Thus far into the inflationary cycle, gold hasn’t proven its value as an inflation hedge, though historically it has added value; cryptocurrencies — which some investors are using to hedge inflation — have struggled recently, and are likely to make investors uncomfortable until they can prove that the recent struggles actually are transitory.
One more thing about inflation: Everyone hates it. And while that’s obvious, consider how much rising prices — and the threat of inflation — just rip the guts out of every consumer confidence/economic optimism measure.
Indeed, while consumers spent as if everything was normal during the 2021 holiday season, they grumbled about inflation the entire time.
Be prepared to feel that emotion in yourself; don’t let it become overwhelming. Prices are rising, but they’re not running away uncontrollably.
Higher interest rates: Interest rates are going up this year, but experts don’t agree on the timing or the magnitude of the hikes.
Sadly, higher rates aren’t going to make much difference for savers. Even if rates on bank accounts and money markets go up, inflation is likely to swallow that gain — and maybe then some — making real returns lower or negative.
At the same time, expect lenders to pass along those rate hikes as fast as they can, so the opportunity may be to “invest” in your debt, paying down/off balances to avoid interest charges. If the cost of money is rising — and it is — debt will be less attractive; handling it before rates get ugly is important.
Increased volatility: The early days of 2022 have already shown plenty of froth, and all of the headline risks are going to be reflected in the market action.
No one worries about volatility when it works for them; if the market gains 5% in two days, no one is ready to bail out thinking trouble is coming, but if the move is 5% down, people start making sure they know where the exits are.
Day-to-day volatility is something traders react to; individual investors can’t afford to be moved by the noise.
Days are long but years are short; if your portfolio is appropriate for current market conditions, strengthen your filter so that you can remain largely unaffected by the back and forth. If you can’t keep your eyes on the prize, consider what you are looking at in your portfolio that scares you every time the market slips and twists.
Slowing growth: Growth numbers at both the corporate and economy levels are curious right now. They reflect the full-stop conditions of the early pandemic in 2020 and the reopening, rebuilding economy of 2021.
Now it’s time for that activity to normalize, and it’s hard to tell whether 2022 will reflect an average of the last two years, or simply a slowing of last year’s trends as the world moves toward post-pandemic life.
The stock market has been driven by a few large-cap, growth-oriented names. Changing conditions certainly suggest that value investments are coming to the fore — that has been the most common market forecast — with small-cap companies, financials and energy looking like defensive plays in current conditions.
Growth stocks, obviously, are fueled by growth; that’s not a condition you can rely on this year to keep big gains rolling along.
Lower investment returns: The S&P500 has averaged 25% gains over the last three years, which is 2½ times historic norms. In each of those years, however, the typical year-ahead forecast was for something close to or below 10%.
This year — given the other conditions we have already discussed — there is good reason to believe that something in the mid-single-digit range will be about right; Wall Street is likely to climb the proverbial wall of worry, but it won’t make big steps up.
It’s futile to suggest that investors suffer through a mediocre year with smiles on their faces — the last few years have been so easy that we have forgotten what hard feels like — but if the market can digest the other transitions and still end up in positive territory, that will be impressive.
Investors looking to improve returns when times get tough should rebalance portfolios — culling winners and repositioning a portfolio back to its target asset allocation — and expand the risk in their portfolio by diversifying, changing the portfolio mix so that it better reflects what lies ahead than what has worked lately.