On Groundhog Day, Wednesday, Feb. 2, Punxsutawney Phil saw his shadow, predicting that there will be at least six weeks of winter weather ahead of us. Given the market action of the last few days, can we expect inclement weather ahead for market bulls as well?

 

Last week, I warned readers to expect the stock market to bounce. It did, retracing 50 percent of the market's decline in just about four days. I also warned that investors should not get comfortable with this bounce because after the bounce markets should go south once again. That prediction seems to be playing out.

 

It would be an understatement to say that markets remain volatile in both the stock and bond markets. Commodities, the currency and crypto markets are also gyrating like a championship bronco.

 

Part of the problem lies with the FANG stocks. These large-cap mega companies account for so much of the major averages and indexes, that when one or another of these stocks catch a cold, the markets catch pneumonia. Most recently Meta (formerly known as Facebook) missed earnings and gave poor guidance on Wednesday night. The stock dropped more than 22 percent overnight. It was the single largest loss of dollar value for a public company in U.S. history. All the major averages declined with it, with the NASDAQ falling 2.25 percent, while the S&P 599 Index fell almost 1.5 percent.

 

Just the day before, Alphabet (Google) did the opposite, gaining 20 percent on stellar earnings and took the indexes for a major rise upwards. On Thursday, Amazon surprised investors with what looked like a massive beat on earnings and gained 11 percent in overnight trading. At first the U.S. indexes traded more than a percentage point higher but gave that all back by the opening on Friday morning, and so did the markets.

 

Overall, corporate earnings have held up with roughly 75 percent beating numbers, but down from 82 percent last quarter. The size of the beats, compared to the last few quarters, have been anemic, while the number of revisions upward in future earnings have been few and far between. Obviously, none of this has been enough to hold up the stock market, let alone propel it higher. I warned investors that would turn out to be the case more than a month ago.

 

The omicron variant is evidently not taking its toll on the job market yet, according to the latest payroll numbers. Friday's employment numbers saw 467,000 job gains versus the forecasts of only 110,000 gains.

 

Investors, rather than celebrate the job gains, saw them as proof that inflation is still climbing. Wages, a key element of the inflation equation, continued to move higher. The Ten-year U.S. Treasury bond spiked higher on the news to more than 1.90 percent. My target, as I have advised investors in the past, is a 2 percent yield on the "Tens" in the short-term.

 

But let's get to the meat of this column — the markets, where now, given that my forecast that the markets would see a 10-20 percent correction between mid-January and February. That prediction has been accomplished at this point. I also signaled that we would bounce this week and we have. At its height the bounce retraced 61 percent of the losses on the S&P 500 Index. But I also warned that we should not get too comfortable with this bounce. The last two days brought this point home to those who doubted that warning. Now what?

 

The stock market took less than half the time to recoup 61 percent of its losses. Since then, the volatility has exploded both up and down. This volatility will continue. Next week, for example, we could see a similar pattern as last week — up for a few days, and then down.

 

 In situations like this, over the longer term, we can expect to see a large "W" pattern in the market's behavior. We are about halfway through this pattern. At a bare minimum, we should see the markets (S&P 500 Index) retest its recent lows of 4,222 (on January 24, 2022). But it doesn't have to stop there. As I wrote two weeks ago, we could see a decline to 4,070 if investors begin to panic. But we could also see a higher low as well. Right now, the markets are in a state of indecision.

 

Given this potential scenario, I don't believe it is time to be a hero. If we retest the recent lows, sure, put a little money to work, but don't bet the house. From there, if it goes lower, start averaging in. The same maneuver could be applied on the upside as well, if 4,222 is truly the bottom. How will you know? Keep reading my columns.

 

Across several industries, corporate executives are guiding investor's expectations lower during this fourth-quarter 2021 earnings season. To me, it is just added another nail in the coffin of bullish sentiment.

 

Pick your poison. The money center banks earnings beat on the bottom line, but it was the commentary and nuanced forward guidance that dismayed investors. Airlines did OK, but also warned of tough times ahead due to higher fuel costs, and the Omicron variant. Companies in other sectors (such as Netflix) warned of thinner profit margins ahead due to higher costs, less demand and/or supply chain issues.

 

None of this should come as a surprise to my readers. I expected a mounting chorus of woeful predictions (real and imagined) by executives, who are eager to cover their butts in the event things don't go their way over the next quarter or two. Lower guidance is one, but not the only reason, I am expecting further downside in the markets ahead.

 

The U.S. 10-year Treasury bond yield is another reason. This week, the bond yield hit 1.86 percent, which was a 40 percent increase since the beginning of December 2021. I expect the yield to hit 2 percent, which is another 7 percent gain from here. Is it any wonder, given that fixed income analysts are outdoing themselves (like lemmings) in predicting more rate hikes this year and sooner? "Four or more," says one analyst from a big brokerage house. "I'll see you four and raise you eight," says another.

 

Bottom line — a 7 percent inflation rate is a real problem. Even President Biden, in his televised two-hour press conference this week, had to remind all of us that "it is the Fed's job to fight inflation."  Anyone (and there are many) who may have been hoping that a stock market decline would cause President Biden to pressure the Fed into backing off from raising interest rates has been put on notice — there is no longer a Fed put under the stock market. It would take a 20 percent decline or more, I believe, before the Fed might have change of heart, if then.

 

Another of my forecasts slower growth is starting to unfold. The economy is beginning to feel the back up in interest rates. Take the housing sector, for example. A 30-year conventional fixed rate mortgage traded at 3 percent a few short weeks ago. Today, that rate is 3.7 percent on average.

 

Since mortgage rates are super sensitive to even a small rise in interest, I would expect existing home sales to begin to falter. And as mortgage rates climb higher, less people may be willing to stand in line and pay up for that house. The housing sector is a huge segment of U.S. GDP. But it won't collapse. I'm not expecting the housing market to do more than slow a tad, but that is enough to scare investors. The good news, I suppose, is that over time prices will come down. That should help reduce the overall inflation pressure. But the key word here is time.

 

Unfortunately, markets aren't about to wait for this kind of scenario to unfold. About the longest investors can wait in today's markets is until the next Fed meeting, which just happens to be next week. On Wednesday, Jan. 26, 2022, traders are expecting an announcement from the Fed spokesmen that there could be as many as four interest rate hikes (of 25 basis points each) in 2022.

 

That won't exactly be good news, but at least it is expected, or at least I hope so. Anything more, and I would say "look out below." A hawkish comment or two from Federal Reserve Bank Chairman, Jerome Powell, could easily swing the market up or down 75 to 100 points on the S&P 500 Index.

 

We have already passed the start date (Jan. 15, 2022) of the correction I predicted several weeks ago. I have been warning readers of a 10-20 percent decline between that date and the end of February. So far, the NASDAQ has fallen more than 10 percent, the consumer discretionary sector is down 8 percent, healthcare down 6.5 percent, real estate down 8.6 percent, and materials down 5 percent.   The S&P 500 Index is only down 7 percent while the Dow has done the best only falling 5 percent.

 

I was hoping that readers took advantage of the few rally attempts we had this past week to reduce positions further and get more conservative. I advise you to do the same in the coming week, if we get another bounce or two. It is not the time to "buy the dips", but rather my advice is to sell the rips.  Once the S&P 500 Index has hit my 10 percent target, we will reassess for further downside.

 

There is a more than an even chance that the Federal Reserve Bank hikes interest rates at least 25 basis points by the end of March 2022. Several analysts expect another three hikes by the end of the year. As an equity investor, this should concern you.

 

This week, both the Consumer Price Index (CPI), and the Producer Price Index (PPI) came in as expected. But "expected" does not mean anything like good on the inflation front. On a year-over-year basis CPI was up 7 percent, while PPI hit 9.7 percent for all of 2021.

 

And while economists debate whether inflation and economic growth will subside over the course of this year, the Omicron variant is throwing a big kink into those forecasts.

 

In my Jan. 13, 2022, column "No Shows Threaten Economy," I pointed out the millions of workers in the global labor force who have been forced to stay off the job while recovering from this highly contagious variant. It has also created additional delays in the supply chain. Container and cargo congestion is building among the world's 20 largest ports.

 

Since much of the inflation rise has been caused by supply chain problems, the short-term impact of more delays indicates to me, a higher rate of inflation going forward. As such, the Fed seems honor-bound to raise rates faster (and maybe at 50 basis points, instead of the expected 25) in order to deliver on their promise to contain inflation.

 

But the bond vigilantes over in the fixed income markets have already taken matters into their own hands. They have bid up the U.S. Ten-Year Bond yield to 1.72 percent. At one point this week, it climbed to above 1.8 percent. Most bond traders are now expecting yields to rise to 2 percent through the next few months.

 

As such, foreign investors, who usually line up to buy U.S. Treasury bonds in the government's frequent auctions, have not been as eager to do so. This week's 10- and 30-year auctions were meh, at best. None of this has been good for the stock market.

 

If you have been reading my columns, you know that technology companies do not do well in an environment of rising interest rates. The high-flyers, that is stocks with little or no earnings but huge price gains, have been bearing the brunt of the downward pressure. But even the big guys are feeling the pressure at this point, with the NASDAQ 100 down 10 percent from its highs.

 

Every time these market favorites try to get up off the floor, they are pounded down again. Investors, trained to "buy the dip," are getting their fingers chopped off. In fact, underneath most indexes, everything that qualifies as speculative, whether it's crypto, electric vehicles, marijuana stocks, Fintech, etc. have been all been taken to the woodshed.

 

Those readers who have followed my advice have hopefully avoided much of the carnage. If you haven't acted to reduce the leverage in your portfolios, there is still time. I am expecting that we will see an oversold bounce in the stock market on Tuesday next week for a few days. Why?

 

Earnings season is now upon us. Most investors eagerly anticipate the "FANG" companies' results and usually buy stocks in anticipation of that event. Since they are such a large weighting in the overall market, great FANG earnings usually buoy the entire market. As such, I would expect the same thing will happen again.

 

The fly in that ointment is that while earnings may be stellar, guidance won't be. Between the omicron variant, supply chain issues, inflation, and the Fed's tightening stance on interest rates, the near-term future that FANG executives see, I'm guessing may not be as rosy as many investors expect.

 

If I am right, and the markets do bounce, take that opportunity to reduce exposure to the overall market. I am still looking for a serious correction in the weeks ahead. If the correction is steep enough, chances are that the Fed might back off on further tightening, but at this point that is just a supposition based on past Fed behavior. In any case, we'll cross that bridge when we come to it.

 

Investors were set back on their heels this week after reading the latest member comments from the Federal Open Market Committee's December 2021 meeting. It suggests that the Fed is prepared to tighten far sooner than most expected.

 

Members seem to say that the Federal reserve bank central bank was prepared to shrink its $9 trillion balance sheet "much sooner and faster" than anyone expected. This is in addition to the already announced plan to reduce its asset purchases faster than they first planned. Couple that with expectations that we could see three interest rate hikes this year and one can understand why stocks dropped this week.

 

The U.S. Ten-Year Treasury Bond yield spiked to the highest level seen in months at 1.74 percent. That sent technology shares plummeting, especially those of high-price stocks with little or no earnings prospects. The prospect of monetary tightening raised fears of a coming recession and with it a declining stock market.

 

This caused a stampede into "old economy" stocks that actually earn money and boast a strong balance sheet with little debt. Value stocks suddenly found their mojo again but when the markets take a nosedive like they did on Wednesday, Jan. 5, few stocks escaped the carnage.   

 

The risk I see is that a handful of stocks hold the key to overall market performance and most of them are technology stocks of some sort. Higher interest rates are like kryptonite to the technology sector and pose a real threat to the markets overall.

 

Apple, Microsoft, Nvidia, Tesla, Amazon, Facebook, and Google are included in the majority of mutual or exchange traded funds, and most of the large cap equity indexes. I would venture to say that they represent at least 25 percent of most indexes.  If for any reason these stocks begin to falter, they could take the entire market down with them. I think that is a real possibility, if the Fed carries out its new program of tightening and I believe they will.

 

There is a healthy debate among investors over whether the Fed, in the face of a large market sell-off caused by their actions, would have the stomach to carry out their plans. That is understandable given how long the Fed has had our back. In times past, most notably in 2018, the Fed has come to the rescue when markets suffered a severe decline.

 

The problem in that belief is that it places the Fed between a rock and a hard place. Inflation is impacting the nation, especially Main Street, (where America's voters live). It is an election year as well, and President Biden and the Democrats are hurting in the polls. The president wants something done about inflation and Jerome Powell, the Federal Reserve Bank's Chairman, has been tasked to do just that.

 

The dilemma is how does he cool inflation, and at the same time avoid precipitating a whoosh down in the stock markets by raising interest rates. I really can't see how Powell is going to accomplish that without hurting the markets in the process. However, I believe the circumstances of higher inflation, possible slower economic growth, and the present surge in the latest coronavirus variants will pass by mid-year, but in the meantime, prepare for more stock market turmoil ahead.

 

Next week, I expect more volatility with gains and losses depending upon the day, but the trend should be up, at least slightly ... I have been predicting a 15-20 percent decline ahead in the stock market in the first quarter of 2022. It could begin as early as the end of next week. Nothing in the market's behavior this week has changed my mind about that.

 

The Santa Rally continued this week with the S&P 500 Index hitting a new record high. Most stocks that gained did so on little volume. Don't read too much into this week's gains, however.

 

There is an old, rarely used term called "painting the tape." It is a mild form of market manipulation where market traders buy and sell securities among themselves to create an appearance of substantial trading activity. The goal is to fool investors into buying into stocks, sectors, or the market thereby driving prices higher.

 

These kinds of tactics often result in an unsustainable spike higher in the averages, followed by a period of consolidation, or decline. The back half of the week stocks consolidated but we will have to wait until the next week to discover the market's next move.

 

This week most newsletters, brokerage houses, and investment advisors were releasing their forecasts for 2022. Those predictions span the gambit. Some are buying value; others are buying growth. Many are simply arguing to buy both since they have no idea what will outperform. Most on Wall Street are sticking with large cap technology, arguing that they are both defensive and aggressive (go figure). Selling the high-flying, Kathy Wood stocks, seems to be a popular call. Bottom line — no one knows.

 

However, just about everyone will be taking credit for fabulous 2021 returns. Few will remind readers that it is not difficult to make money for their investors when the S&P 500 Index is up 25 percent for the year. If truth be told, credit for those returns should go to the United States government.

 

The Federal Reserve Bank's massive monetary stimulus, coupled with trillions of dollars of fiscal stimulus, created those gains in the stock market. Of course, no one wants to acknowledge that. But that era may well be over.

 

Last week, I warned readers that government stimulus is now winding down.

 

The U.S. central bank is planning to raise interest rates soon. Worldwide, some central banks are already doing just that. At the same time, fiscal stimulus is also declining. In the U.S., President Biden's Build Back Better spending plan is expected to be the last such program on the docket, if it is ever passes. Experts give it less than a 50 percent chance of succeeding.

 

So, let's keep this simple. Ignore the debate on how high inflation will rise (or not). Forget the arguments on when the supply chain bottlenecks will ease, or whether Omicron will be the worst, or even the last, variant to afflict the world. Answers to those questions are merely guesstimates anyway.

 

What we do know is what the government plans to do. Given their intentions, it is hard for me to believe that the economy can continue to grow at its present rate, while shutting off the spigot of all this government money. Common sense would tell you that the economy will take a hit, growth should slow, and with it, corporate earnings, which brings us to the stock market.

 

Sometime in the first quarter of 2022, I expect a rather serious correction in the stock market due to the government decline in stimulus. I have stuck my neck out and pinned late January, early February, as a possible start date for this event. What should you do?

 

I advise readers to hire an investment advisor as a first step. They will be able to maneuver through what I suspect will be a difficult year (or years) better than you can. If that is not an option, I suggest you reduce risk.

 

Move to a more conservative portfolio. Consumer durables, telecom, REITS, healthcare are some suggestions, but these sectors have already risen in price substantially in December. Make no mistake, however, if my call proves correct, you can expect losses no matter how conservative you may be. What I do not suggest you do is sell everything and move to cash.

 

For one thing, I could be wrong. Second, stocks could continue to rise over the next few weeks, or months, even if I am ultimately proven right. And after correction, I expect markets to bounce back. Very few will know when to get back in. So, stay invested, just not as aggressively.