Why was the first half of 2022 one of the worst periods in terms of US stock market returns?

The press is rife with reports about how the US indices have entered into bear markets. Normally a correction of 20% in general indices is considered to be a bear market. By that definition, the Dow and the S&P 500 are already down over 20% while the NASDAQ is down over 30% from peak levels. Let me focus on the first half ended June 2022. In H1, the S&P 500 delivered the worst negative returns in over 50 years.

Yes, that is correct. It was the worst fall in the US market indices in the first half of the year since the sharp fall of 1970, nearly 52 years ago. The sell-off was triggered by Federal attempting to aggressively to curb persistent inflation with higher interest rates. That raises the risk of an economic recession and that has spooked the markets. In 1970, the sell-off was due to a recession that ended the longest period of economic expansion in the US.

On the subject of wealth damage, enough has already been said. Value depletion in the US tocks is more than $9 trillion and still counting. When Fed started hiking rates, the first concern was that it may have started too late. Now the worry is that too much of hawkishness could threatens to derail the growth engine. This could effectively push the US economy into a recession. The fall in the S&P 500 at over 20% represents a bear market.

Here is why. The aggressive rate hikes by the Fed are likely to strengthen the dollar which is evident with the dollar index or DXY touching a 20-year high. That is likely to further strengthen the dollar and a strong dollar is not great news for the US technology companies that rely heavily on the flow or revenues and profits from abroad. In the S&P 500, the sole exception was energy with a rise of 29%. Consumer discretionary stocks were down 33%.

However, Jerome Powell is not really perturbed and that is only worrying the markets more. According to Powell, not hiking rate now would create a crisis of confidence. More so, when the US interest rates are in the vicinity of 8.6% and still rising. Normally, rising inflation causes the maximum pain for the most vulnerable segments of the economy. Hence, any focus on growth without addressing inflation would be vexatious for the Fed.

For now, we don’t know how far the Fed would go, but the price damage is largely done and dusted. Fed allowed easy liquidity for too long and it is coming back to roost. Fed has little choice but to clamp down. Citi has pegged a 11% lower target for the S&P 500 index. Most of the economists are placed the odds of a global recession at 50%. As long as that overhang is there in the market, the markets will be under pressure.