Equity markets enjoyed a strong 2021 thanks to the economic reopening and the Federal Reserve’s loose monetary policy. The S&P 500 Index gained 26.89 percent, the Nasdaq 21.39 percent, the Dow Jones Industrial Average 18.73 percent and the Russell 2000 Index 13.81 percent.
Energy, real estate and financials were the best performing sectors. SPDR Energy (XLE), Real Estate (XLRE) and Financial (XXLF) increased 53.25 percent, 46.13 percent and 34.80 percent, respectively. All benefited either from inflation or the rising interest rates that accompanied it.
As the calendar turns into 2022, investors will focus on how the Federal Reserve will address inflation. The Federal Reserve was supposed to taper starting in November, but it reversed the taper in December and increased its balance sheet instead. The year ended with the market pricing in a June rate hike, but some speculators anticipate the Fed could move as early as March.
The consumer price index hit 6.8 percent in November, the last reported reading in calendar year 2021. December’s number will be out in January. With oil prices recovering most of their omicron-related dip in November, consumer inflation may already be above 7 percent. The producer price index will likely climb into the double-digits. The last time inflation was this high in the early 1980s.
The threat from rising inflation derailed the fortunes of profitless technology companies and boosted the attractiveness of companies with stable earnings. Similar to bond prices, profits that will be generated years from now are worth less with higher inflation, whereas immediate earnings are more attractive. As a result, funds that own more quality firms such as Vanguard Dividend Appreciation (VIG) and iShares MSCI Minimum Volatility USA (USMV) saw returns of 24.71 percent and 21.80 percent in 2021. Both funds beat the S&P 500 Index in the final two months of the year after the Fed announced it would taper. VIG climbed 5.21 percent and USMV 4.98 percent, compared to SPDR S&P 500’s (SPY) 3.98 percent return.
The 10-year Treasury yield started the year at 0.90 percent and finished at 1.51 percent, making a high at 1.75 percent in March 2021. If inflation is not controlled in 2022, the 10-year could move above 2 percent over the next few months. Bond investors anticipate the Fed is correct about inflation declining in 2022 though, hence the very low interest rates on longer-term bonds.
Commodities did well in 2021, but many peaked in May. Readers may recall lumber surging. The futures contract touched $1,700 in early May and fell below $500 in August, but was back above $1,100 at year-end. Copper peaked at $4.90 per pound in May, up from $3.50 at the start of the year. It finished the year at $4.45 per pound. Agricultural commodities kept rising throughout the year. Wheat climbed from $6.25 to $7.75 per bushel. Crude oil saw choppy trading during the year, but remained in an uptrend through 2021, starting from $48 per barrel and finishing the year at $75 per barrel.
At the end of the year, the Atlanta Federal Reserve’s GDP Now model predicted 7.6 percent GDP growth. The blue-chip economist consensus is lifting estimates and now at 6 percent. The government will report its first estimate in late January 2022.