What is moving the stock markets?
Stock markets have broken the upward trend and registered a decline of more than 10% since the beginning of this year. The current economic and geopolitical situation suggests that we may see a deepening of the correction.
There are several important factors that will be the main driving force for the stock market in the coming months. Some of them are expected to have a positive impact, but those that have the potential to continue to put negative pressure on stock prices predominate.
Market movements this year
All three leading US stock indexes - S&P 500, Dow Jones and Nasdaq100, have registered sales since the beginning of the year. For the Dow Jones, the decline is 9%, the S&P 500 erased 11%, and the most affected index is Nasdaq100, which lost more than 18%.
Nasdaq100 chart
There are several main reasons that led to sell-offs in the stock market. Expectations of tightening monetary policy by central banks, the Russia-Ukraine conflict, energy prices and the pandemic are more important.
Companies are currently publishing their financial statements for the fourth quarter of 2021, which is an additional factor that may have an impact on movements.
What are the risks for the stock market?
At the moment, expectations of tightening monetary policy and the conflict between Russia and Ukraine are the two main drivers of the stock markets. The pandemic remained in the background, but given its duration and the emergence of new strains, it is possible that at a later stage it will again have a leading negative impact on movements. Quite logically, the end of COVID-19 will be accepted with optimism by investors and stock markets.
Monetary policy
Almost all central banks began to reduce their quantitative programs and gradually tightened monetary policy. Some of them have already raised interest rates for the first time. Some analysts expect 4-5 raises in interest rates from the Fed this year, while others, like Goldman Sachs, predict 6-7 raises.
Rising interest rates, especially in such short period of time, have a negative impact on stock markets and we usually see stock sales. This situation increase the profitability of instruments that offer a fixed income and usually have a significantly lower risk than equities. Current expectations for more interest rate hikes direct some of the investors' capital to these assets and this is causing sales.
More expensive energy
More expensive energy increase the costs for companies, which reduces their profits. Expectations of lower profits will force investors to reduce their investments in stocks. Companies can pass the higher costs to end-users by raising prices, but this process takes time. However, companies first try to hedge against such risks and monitor the actions of their competitors before taking action.
Conflict between Russia and Ukraine
The conflict between Russia and Ukraine poses many risks that are not limited to markets. Some of these risks are related to the fact that Russia is one of the largest producers and exporters of energy in the world. Additional sanctions against Russia, as expected, would limit the country's energy supplies. This will have the potential to continue to support higher energy prices, which will result in higher business costs and lower profits.
COVID-19
At the moment, the pandemic remains in the background. In recent months, we have seen that information related to new strains of COVID-19 is causing stock market sell-offs. However, the markets managed to reach record levels as the countries were supported by the policies of their central banks and governments. However, if we see a tighter monetary policy from the central banks and a new strain, we may see a significantly greater decline in stock prices.
What would support stock market?
Share prices can be supported by the financial statements that are currently being published, as well as those that are expected to be published in the coming months. Better performance of companies will lead to support for their share prices. At the beginning of the pandemic, we saw that analysts' forecasts for profits were significantly lowered. Consumer demand remained higher than forecast, leading to higher profits for companies and higher prices for their shares.
Anything that, for one or another reason, would slow the tightening of monetary policy is a potential factor that could support growth in stock prices. If current or future risks are expected to have a negative impact on economies, this will reduce the speed with which the Fed and other central banks tighten their monetary policy. Retaining higher inflation is another factor that has the potential to continue to support stock appreciation, especially when combined with slower tightening of monetary policy.
Despite expectations of tightening monetary policy, if the economy continues to perform well, it is logical to see a rise in equities and upward movements in stock markets. The reason is that economic growth means that companies sell more goods and services, which increases their profits. This makes them more attractive to both investors and traders, as it triggers movements that they can take advantage of.
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