Despite a slight increase in volatility over the past two weeks, it has been another major year for the stock market. Until Tuesday, December 7, the standard Standard & Poor’s 500 (SNPINDEX: ^GSPC) He has gained nearly 25%. To put that number in context, the average annual total return for the widely followed index, including dividends, has been around 11% since 1980.
No compelling words: It’s been a good year for many big-name companies.
But history also shows us that stock market crashes and double-digit percentage corrections are common. As we prepare to head into a new year, the following seven factors stand out as the biggest threats to the stock market in 2022.
1. The Federal Reserve is terrified of inflation
Arguably the biggest concern for Wall Street in 2022 is how the Federal Reserve will deal with rapidly rising inflation (the rising cost of goods and services).
Throughout 2021, Federal Reserve Chairman Jerome Powell described inflation as “temporary.” But those terms changed this month, with Powell realizing that the high prices could continue. Although a certain level of inflation is expected in the growing economy, the 6.2% increase in the CPI for all urban consumers in October represented the largest jump in 31 years. Sustained price increases of this magnitude will eat up wage increases, eat up the discretionary income of consumers and businesses, and could halt the economic recovery from the coronavirus recession in its tracks.
The country’s central bank may have to raise the federal funds target rate, which affects interest rates, earlier than expected. The concern is that if the Fed moves too slowly, or provides a lot of fuel to the US economy with its historically low lending rates and bond-buying program, it may have to raise lending rates aggressively. Should that happen, growth stocks would be in deep trouble — and so would the S&P 500, which has relied on growth stocks for most of its gains over the past 12 years.
2. Political stalemate
When in doubt, put politics out of your wallet. But often, it’s impossible to ignore how the actions in Washington, D.C. can affect the outlook for your investments. However, the biggest concern in 2022 is not the legislation that may come from Washington. Instead, this is what has not been accomplished.
Next year, lawmakers will have to process another federal funding bill by February 15. We’ll also be working our way through the midterm elections in early November, and politicians may be busy with another debt ceiling discussion near the end of 2022.
In recent years, the ideological divide between America’s two dominant parties, the Democrats and the Republicans, has widened, and finding compromises has, at times, seemed impossible. With politicians focused on reelection campaigns, inaction in Washington could become a dangerous distraction on Wall Street.
3- Global Variable Variable
Another very clear threat to global markets is what I refer to as the coronavirus disease 2019 (COVID-19) “changing asymmetry”.
In May, the emergence of the delta variant of the SARS-CoV-2 virus that causes COVID-19 briefly sent investors into the hills. The same can be said for the omicron variant of the past two weeks. The SARS-CoV-2 mutation indicates that we should expect new variants to emerge next year.
The changing variance describes how, rather than having a unified approach to addressing the spread of COVID-19, we are seeing a combination of campaigns and restrictions globally. While some countries have few restrictions, others have mandated the vaccine or banned non-vaccinators from non-essential stores. These unexpected and inconsistent responses to the variables of COVID-19 threaten to disrupt already fragile supply chains and could seriously reduce US and global growth rates in 2022.
4. Margin debt resolution
The fourth threat to the stock market in 2022 is leverage.
Over time, we expect the nominal amount of outstanding margin debt to rise. Margin debt describes the amount of money that is borrowed from an interest-bearing brokerage to buy or short sell securities. However, rapid increases in debt margin are less common and come with worrying repercussions.
Back in the beginning of 1995, there were only three cases in which the debt margin increased by at least 60% year-on-year, according to data from the Financial Industry Regulatory Authority (FINRA). It happened shortly before the dotcom bubble burst, just months before the financial crisis, and again in 2021.
While margin can be used to amplify gains, losses can also be quickly multiplied. A short-term event driven by fear or sentiment could push the S&P 500 lower in 2022, causing sweeping margin calls to plunge Wall Street.
5. Encoder breakdown
Over the past two years, the cryptocurrency market has been revolving around the S&P 500. Since the coronavirus hit the stock markets in March 2020, the S&P 500 has risen just over 100%, while the total value of cryptocurrencies has gone up even more. More than 15 times as much from $141 billion to $2.34 trillion.
Making money in the cryptocurrency space was easy – maybe very easy. Cryptocurrency gains were, in some cases, invested in highly volatile stocks, momentum games, and meme stocks, such as Jim Stop And AMC Entertainment. If the cryptocurrency market, which is dominated by a few names in the market, has undergone a major reversal, retail VC investors have been swinging between digital currencies and the choppy stocks/momentum/charms could dry up partially or completely.
As a reminder, in November, the Federal Reserve’s “Financial Stability Report” cited the actions of retail investors in meme stocks as a potential destabilizing factor in the stock market. If the momentum chaser is hit by cryptocurrencies next year, Wall Street will likely share the pain, to some extent.
6. Rebound stock growth premium
Historically, stock value has actually outpaced growth stocks. But since the Great Recession ended, low lending rates and a pessimistic central bank have paved the red carpet for booming growth stocks. Ultimately, we’ll see some kind of bounce back to that tug of war between growth and value, and it could come in 2022.
If the Fed raises lending rates faster than expected and sticks to its promise to cut or cancel quantitative easing measures, access to cheap capital will dwindle relative to growth stocks. This likely means less in terms of acquisitions, as well as faster-paced companies being more aware of where they put their capital to work in relation to new ventures and innovation. In other words, it probably means slower growth rates across the board.
The problem, as we noted earlier, is that growth stocks have been the wind in the sails of the S&P 500. If growth rates slow, it becomes very difficult for Wall Street and investors to justify paying 50 times sales for a cloud services company or 35 times the revenue from cybersecurity stocks. Excellent bounce back for fast-paced companies can throw off S&P 500 and heavy technology Nasdaq Composite in 2022.
7. History (often rhymes)
Finally, history looks like a real threat to the seemingly steady upward trend for the S&P 500 over the past 20.5 months.
Since 1950, there have been 38 double-digit declines in the S&P 500, which runs down one notable decline, on average, every 1.87 years. Likewise, there has been one or two declines of at least 10% in the 36 months following each of the previous eight bear market lows, dating back to 1960. Although the stock market does not fully adhere to averages, nor does it follow from history to ” t”, it often rhymes with date. This means that the S&P 500 repeats lower moves after certain events, although not always on the forecast timeframe.
Based on the above numbers, it appears that we are expecting a natural correction to the downside and a fiasco to rebound from the bottom of the bear market. Although there is no way of knowing when this drop might occur, history is quite clear that negative moves are a normal part of the investing cycle.
In other words, don’t be surprised if 2022 sees a decline larger than the meager 5% “drop” the S&P 500 has faced this year.
This article represents the opinion of the author, who may disagree with the “official” recommendation position of the Motley Fool Premium Consulting Service. We are diverse! Asking about an investment thesis — even if it’s our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.