A remarkable stock market in a remarkable year closes 2021 with a remarkable quarter. Our quant work gave a rare three-times signal of extreme fear. As this is written (December 20), all quant accounts are fully invested.
Our other equity strategies began buying at the end of the Thanksgiving period selloff, and then followed the quant signals. Our US Equity ETF model includes about 20% of the quant elements. We’re overweight the healthcare sector and its subsectors, the climate-change-sensitive sectors, semiconductors, and defense-aerospace, and we have added an ETF position in the financial sector.
Market fear was evidenced around Thanksgiving week because of the uncertainty about the Federal Reserve’s policy, uncertainty surrounding the Omicron COVID variant, uncertainty about a debt ceiling political default risk, uncertainty about geopolitical threats in Eastern Europe, and uncertainty about financial contagion from the Chinese real estate enterprises defaulting on their debt. Uncertainty about other global central banks’ actions and about inflation direction and intensity round out a partial list of uncertainties.
Markets don’t like uncertainty. You cannot put probabilities on it. Markets can handle good news or bad news, but it is the “no news” that creates the worst market conditions. That is how we interpret the Thanksgiving selloff and its intensity. As Q4 and 2021 close the calendar, these uncertainties are being replaced with outcomes and forecasts; hence, we remain fully invested and expect higher stock prices to be achieved in 2022 as higher earnings continue to propel the US stock markets to new levels.
My colleague Bob Eisenbeis has written on uncertainty and the Fed. Here are two links: “Today, Tomorrow, and Next Year,” https://www.cumber.com/market-commentary/today-tomorrow-and-next-year; “Uncertainty,” https://www.cumber.com/market-commentary/uncertainty.
As this is written, we have some more definitive probabilities of future Federal Reserve actions. Markets expect two or three Fed hikes of the policy interest rate starting in the middle of 2022. That is reflected in market-based pricing. That doesn’t mean the market is right. It does mean the market is now assigning a probability to an outcome with real-money bets. Please remember that it is the market-based pricing that reflects the consensus views of market agents. All the “talking heads” with their punditry cannot reach to the level of reliability of a market-based price. Talk is cheap; real-money bets are the ones that count.
The other uncertainty about which there is little advance information to guide us is the earnings that will be reported for the 4th quarter of 2021. We know Q3 was about $54 for the S&P 500 Index. The consensus of expectations for Q4 is for that number to be lower. I commonly see targets of about $52. We will know more about these earnings reports in about a month as companies end their fiscal year and assemble the earnings forecast guidance for next year while reporting numbers for Q4 and the full year of 2021.
We expect positive earnings surprises. And we wouldn’t be surprised to see the final for Q4 to be above Q3, not below it. If we are correct, that portends higher stock prices in spite of the Fed’s changing policy with a pivot to an acceleration of tapering. If we are wrong and earnings in Q4 disappoint market agents, then any yearend rally in stock prices will fizzle. We are fully invested because we expect the earnings growth rate to remain in an uptrend. We will find out soon enough.
We wish the investor clients of Cumberland, their consulting professionals, and all our readers a safe holiday.
David R. Kotok
Chairman and Chief Investment Officer
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Cumberland Advisors Market Commentaries offer insights and analysis on upcoming, important economic issues that potentially impact global financial markets. Our team shares their thinking on global economic developments, market news and other factors that often influence investment opportunities and strategies.
