Market Memo
September 2021 – Daniel Zalipski, CFA®
They say the markets climb a wall of worry, and this past quarter has been no exception. It is somewhat natural for investors to be on the lookout for the next event that could trigger a dramatic sell-off, even more so when the markets are bouncing near all-time highs. This practice seems to exaggerate the longer the broad market climbs higher without a decent pullback. The longer this type of environment persists, the louder the warnings of selloffs and corrections will get. Will the delta variant send us into a tailspin, or perhaps the proposed tax increases will spook the markets, or will the Fed send us lower?
One issue with all the red flags being waved around is that none of them are new. The delta variant has been in the headlines for months now, with the current wave appearing to reach a crest. The current wave is being blamed for some soft consumer-related reports that came out over the past several weeks but has not been nearly as economically disruptive as feared. Despite reports of vaccinated individuals experiencing break-thru infections, the data reveals that the vaccines are providing adequate safety preventing the most severe outcomes for a majority of recipients.
Moving from Wall Street to Washington DC, another big concern on the horizon are the proposed tax increases with President Biden’s agenda. This topic is unpleasant, but again, not new. Many of the proposals nearing the finish line are significantly watered-down versions of the proposals floated during the campaign and throughout his first term. Income tax rates for the top bracket are set to revert to 39.6% from the 37% rate set in the Tax Cut and Jobs Act of 2017. A concerning provision to eliminate the step-up in cost basis for estates did not make the cut. Taxes on long-term capital gains and dividends may increase to 25% (from 20%) for high earners. The original proposal sought to tax them as ordinary income. The corporate tax increase also appears to fall short of initial proposals, with analysts expecting it to increase to ~26%, short of the proposed 28%. With most of these proposals coming in lower than expected, the worst-case scenario appears to be off the table.
This leads us back to a familiar topic, the Fed. The Fed deserves some credit where credit is due, they responded swiftly to the pandemic’s onset. They put in place several emergency measures and programs to provide liquidity and support to the market during an unprecedented global event. The market’s performance since the onset of the pandemic is a direct result of actions taken by both Congress and the Fed. While many of those emergency measures have been discontinued with minimal disruption, the last remaining elements the Fed needs to unwind are the ones investors are most concerned about.
As of now, the Fed purchases $120 billion in government backed bonds each month, providing liquidity to the markets. In addition to this, the Fed continues to maintain a policy of ultra-low interest rates. To promote calm over panic, the Fed has been extremely deliberate when it comes to telegraphing their next moves. As of now, the Fed plans to taper their asset purchases throughout 2022 and expect to begin interest rate increases in 2023. Higher interest rates increase the cost of capital, raising interest expenses and compressing profit margins, both potentially negative for stock prices.
Until the Fed reduces their accommodative policies, the market will likely continue to climb that wall of worry. Pockets of volatility and selloffs are to be expected. As long as the Fed continues to pledge their support, investors will continue to buy.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendation for any individual. Although general strategies and / or opinions are revealed, this post is not intended to, nor does it represent or reflect, transactions or activity specific to any one account. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All data and information are gathered from sources believed to be reliable and is not warranted to be correct, complete, or accurate. Investments carry risk of loss including loss of principal. Past performance is never a guarantee of future results.