Thrivent Asset Management Contributors to this report: Steve Lowe, CFA, Chief Investment Strategist; John Groton, Jr., CFA, Director of Administration and Materials & Energy Research; Matthew Finn, CFA, Head of Equity Mutual Funds; and Jeff Branstad, CFA, Model Portfolio Manager

Although the labor market remained strong throughout the first two quarters of 2022, rising inflation – and monetary tightening policies by the Federal Reserve (Fed) – continued to drive down stock and bond prices throughout the 2^nd quarter.

The S&P 500^® Index ended the quarter down 16.45% – and was down about 20% through the first two quarters – while the bond market experienced its worst quarterly performance in years, with the Bloomberg Aggregate Bond Index (which tracks the high-grade bond market) declining 10.35% year to date. The Fed raised rates 0.25% in March, 0.5% in May, and 0.75% in June – the largest single rate hike since 1994.

The Fed’s monetary tightening policy is intended to combat rising inflation. The Consumer Price Index (CPI), which is a commonly cited index used to gauge inflation, was up 8.6% through the 12-month period through May 2022. Excluding food and energy, the index rose 6.0% during that period. The food index was up 10.1% and the energy prices were up a whopping 34.6% during that 12-month period.

On the bright side, employment growth continued to surge in the 2nd quarter, as employers added about 1.2 million new jobs, including an expectedly high 372,000 new jobs in June. The unemployment rate remained at 3.6%, which is near a 52-year low.  Despite recession fears, job growth could remain strong going forward because there are still about 11.3 million job openings in the U.S., according to a July 6 Fed Economic Data report.

With more Americans returning to work, personal income has continued to increase each month since February, with income increasing by 0.5% in both April and May, according to the Bureau of Economic Analysis. Disposable personal income also increased by 0.5% in April and May. 

Personal consumption expenditures have also been rising in the 2^nd quarter, up 0.6% in April and 0.2% in May. However, when adjusting for inflation, personal consumption expenditures were up only 0.3% in April and down 0.4% in May. The personal savings rate as a percentage of disposable income was up 5.4% in May.

Manufacturing has also remained solid, with economic activity in the manufacturing sector improving in June for the 25th straight month, according to the Institute for Supply Management (ISM). While there were signs of a softening in demand – and continued supply chain issues – 15 of the 18 industries tracked by ISM reported growth for the month.

Drilling down

U.S. stocks hammered in 2^nd quarter

The S&P 500 Index dropped 16.45% in the 2^nd quarter– including an 8.39% decline in June – from 4,530.41 at the end of March to 3,785.38 at the June close. The total return of the S&P 500, including dividends, was down 16.10% for the quarter and down 8.25% in June. Year to date, the total return was a negative 19.96%. (The S&P 500 is a market-cap-weighted index that represents the average performance of a group of 500 large capitalization stocks.)

The NASDAQ Index fared even worse, down 22.44% in the 2^nd quarter, from 14,220.52 at the March close to 11,028.74 at the end of June. Year to date, the NASDAQ was down 29.51%. (The NASDAQ – National Association of Securities Dealers Automated Quotations – is an electronic stock exchange with more than 3,300 company listings.)

Retail sales rise

Retail sales were up 7.7% from a year earlier over the three-month period from March through May, as consumers continued to recover from the pandemic slow-down, according to the June 15 Department of Commerce retail sales report. But sales slipped 0.3% in May, with inflation and concerns over the economy weighing on consumer confidence. Compared with the same period a year earlier, retail sales were up 8.1% in May.

Auto sales were down 4.0% in May and down 4.9% from a year earlier. Building material sales were up 0.2% for the month and up 6.4% from a year earlier. Department store sales were up 0.9% for the month and 0.9% from a year earlier.

Non-store retailers (primarily online) were down 1.0% for the month but up 7.0% from a year earlier. Restaurants and bars continued to recover, with sales at food services and drinking establishments up 0.7% for the month and 17.5% from a year earlier.

Employment exceeds expectations

The economy added an unexpectedly high 372,000 new jobs in June, according to the Employment Situation Report issued July 8 by the Department of Labor.

The strong numbers were a good sign for the economy, holding the unemployment rate at just 3.6%, which is considered full employment.

Employment growth remained strong in several key industries, including professional and business services, leisure and hospitality, health care, and transportation and warehousing.

Average hourly earnings for all employees on private nonfarm payrolls were up $0.10 per hour in June at $32.08 per hour. Over the past 12 months, average earnings have increased by 5.1%.

All 11 sectors drop in 2^nd quarter

The slump in stocks affected every sector of the S&P 500 in the 2^nd quarter, with all 11 sectors in negative territory. Consumer Discretionary fared the worst, down 26.16% for the quarter. Technology stocks were also hammered, with Information Technology dropping 20.24% and Communication Services falling 20.71%.

The best performers included Consumer Staples, down 4.62%, Utilities, down 5.09%, and Energy, down 5.17%.

Through the first six months of 2022, Energy led all sectors, up 31.84%, followed by Utilities, down 0.55%, and Consumer Staples, down 5.58%. The worst performers were Consumer Discretionary, down 32.82%, and Communication Services, down 30.16%.

The chart below shows the results of the 11 sectors for the past month, the 2^nd quarter, and year-to-date:

Treasury yields jump

Bond yields continued to move up in the 2^nd quarter as the Fed raised rates a total of 1.25%, following a 0.25% hike in March. The yield on 10-year U.S. Treasuries rose 0.66% in the 2nd quarter, from 2.32% at the end of March to 2.98% at the June close. The Fed is expected to continue to raise rates throughout the remainder of 2022 in an effort to curb inflation.

Corporate earnings still climbing

Despite inflationary pressures, corporate earnings expectations continued to rise in the 2^nd quarter. The 12-month advanced earnings per aggregate share projection for S&P 500 companies climbed 2.85% in the 2nd quarter. Year-to-date, earnings projections have increased 7.39%.

Forward P/E ratio declines

With the stock market tumbling about 20% this year, the forward price-earnings ratio (P/E) of the S&P 500 dropped significantly in the 2nd quarter. The forward P/E of the S&P 500 declined from 19.79 at the end of the 1^st quarter to 15.80 at the June close. The P/E has dropped 5.53 from the 2021 closing level of 21.33.

The forward 12-month earnings yield for the S&P 500, which is the inverse of the P/E, moved up from 5.14% at the end of the 1^st quarter to 6.34% at the June close. The 12-month forward earnings yield can be helpful in comparing equity earnings yields with current bond yields. Although the yield is about 1% lower than it was two years ago, it is still significantly higher than the 2.98% market rate of 10-year U.S. Treasuries.

Dollar gains vs Euro and Yen

The dollar has reached a 20-year high relative to the world’s other major currencies. The dollar appreciated 6.04% versus the Euro in the 2nd quarter, as the war in Ukraine — and the Russian sanctions that have accompanied it — took a toll on the European economy. For the year, the dollar has appreciated 8.07% versus the Euro.

The dollar has also appreciated significantly versus the Japanese Yen. The dollar was up 11.93% versus the Yen in the 2^nd quarter and up 17.98% versus the Yen through the first six months of 2022. The drop in the relative value of the Yen has been attributed to a loose monetary policy by the Bank of Japan versus a concerted tightening policy by the Fed.

Oil prices moved up in 2nd quarter

Oil prices continued to climb in the 2^nd quarter, due primarily to two factors: Global demand had already been on the rise as the pandemic receded, a situation that was exacerbated by the boycott of Russian oil in response to the Ukraine war.

West Texas Intermediate, a grade of crude oil used as a benchmark in oil pricing, surged to more than $123 per barrel in early March before slipping back down to about $100 at the end of March. The price moved back up 5.46% in the 2^nd quarter, closing the quarter at $105.76. Year to date, oil prices were up 40.62%.

Gasoline prices at the pump also continued to spike in the 2^nd quarter, up 17.95%. Through the first six months of 2022, gasoline was up 51.32%, from a national average of $3.38 per gallon at the end of 2021 to $5.11 at the June close.

Gold prices slip

Despite rising inflation, gold prices moved lower in the 2^nd quarter, from $1,941.30 per ounce at the end of the 1^st quarter to $1,793.10 at the June close. Year to date, gold is down 1.16% from its 2021 closing price of $1,828.60 per ounce.

International equities sink

International equities mirrored the U.S. market in the 2^nd quarter, with the MSCI EAFE Index dropping 15.37%, from 2,181.63 at the end of March to 1,846.28 at the June close. Year to date, the index is down 20.97%. (The MSCI EAFE Index tracks developed-economy stocks in Europe, Asia, and Australia.)

What’s ahead for the economy and the markets? See: 3rd Quarter Market Outlook, A look ahead as inflation brings bear market realities, by Steve Lowe, Chief Investment Strategist, Thrivent Asset Management