Market corrections are inevitable, not unprecedented. Uncertainty is a constant in the market, though one we often discount when times are good. When investors become aware of the uncertainty, as we all were made in 2022, that causes fear. Fear helps fuel a correction.

 

Corrections are inevitable, and sometimes painful, but healthy just the same.

 

2022 saw challenges to nearly all asset classes. There was a drawdown on all major exchanges; by year end, the S&P/TSX Composite Index was down 8.7%. In the US, the S&P 500 Index was down 19.4%, and the Nasdaq Composite Index was down a whopping 33.1%. The correction was broad based, with a bright spot being the energy sector. Much of this drawdown can be attributed to the aggressive monetary policy enacted by central banks around the world. Over the course of a year, overnight interest rates rocketed upwards in an attempt to cool inflation, and slow down the economy. By year end, there were signs that it was working. Inflation increases began to slow, and asset prices came down.

 

Inflation, the topic of the year, was and still is an issue for central banks. By raising rate to a near 40-year high over the span of 2022, we saw a double digit decline in bond markets, something that does not often occur in conjunction with equity market drawdowns.

 

Much of 2021 was spent debating whether the initial inflationary pressure was transitory. The answer that seems to have emerged in 2022 is not one of absolutes, but one that is multifaceted and layered. Firstly there were supply chain disruptions around the world that spilled over from COVID. Government stimulus to support those affected by the pandemic put excess cash in the hands of consumers. Finally, the conflict in Eastern Europe exasperated mounting supply issues and further caused shocks to the oil and gas markets and other base commodities, driving inflation further.

 

Of note now is how to position portfolios in an environment such as this. To begin with both the Canadian and US stock markets are less expensive than they were last year. Inflation may have peaked, and as such central banks could also be nearing the end of this cycle of rising rates. Recent releases from the Bank of Canada seem to support this conclusion. Inflation should eventually come down as growth slows, and corporate earnings fall. We expect that the direction of oil prices could be higher, which bodes well for the TSX Composite over the course of 2023. In terms of the bond market, steady (and eventually falling rates) create situations where price appreciation of bonds can take place. In the meantime, investors can take advantage of the higher rates and lock in returns for years to come.

 

There are still, and always will be bumps along the way. Uncertainty is a constant in the market, but we see fear subsiding.