US stock market investors could be gearing up for a Santa Claus rally before the year-end. The positive market sentiment is pointing towards a recovery in stock prices after a year-long decline. 2022 has so far not been kind to investors with S&P 500 dipping almost 17% and Nasdaq 100- the tech-heavy index sliding almost 28% year-to-date (YTD).
Investors anticipate that the US Fed will take note of the cooling effect of rate hikes on inflation data at its upcoming FOMC meeting. In order to combat inflation, a number of global central banks have already eased their tightening standards.
In addition, the US Fed is anticipated to announce a 50 basis point rate increase, slowing down from this year’s four consecutive 75 bps rate increases. “Central banks seem to be stepping down from aggressive rate hikes, which may lead to a year-end Santa Pause rally for stocks,” says Jeffrey Kleintop, Managing Director, Chief Global Investment Strategist, Charles Schwab & Co., Inc.
What may work out for the market is a signal that Fed’s Powell will stick to its slowing down of the rate hike remark on November 2. “While a pivot to rate cuts does not seem likely in the near term, if central banks signal a step down in the size of the rate hikes or a pause, stocks may breathe a sigh of relief,” adds Kleintop.
The recent US CPI data shows annual price rise is slowing down. From prices rising by 8.2% in September (YoY), inflation fell to 7.7% in October. The November US CPI data release is on December 13 while the next US Fed FOMC is on December 13-14. “Driven by a reduction in inflation expectations and a less tight Fed, yields retreated significantly in a bull steepening motion, with 2s and 10s down 28 and 21 basis points respectively,” says José Torres, Senior Economist at Interactive Brokers.
The equity rally may be in the offing. “The drastic downward shift in Fed tightening expectations may pave the way for a Santa Claus equity market rally into year-end,” says Torres.
However, many other analysts, economists, and investors are of the view that it could be too early to call it a beginning of a bull run and a further dip in stock valuations may not be ruled out. A structural bull run that can sustain itself over a longer period could be a few quarters if not years away. Torres cautions, “Revenue guidance from the Street and declining earnings expectations for 2023 point to a burdened consumer and a deteriorating economy driving price declines due to reduced demand rather than greater efficiencies. While the market cheers a great inflation report, it’s important to remember the 19% bear market rally in August that was driven by slower inflation readings driven mainly by only category: gasoline.”
Another key development that may take stocks up around Christmas 2023 is the buyback programs of companies. “ It will cost companies just a bit more to engage in buybacks in 2023 following the passage of the Inflation Reduction Act earlier this year. The controversial piece of legislation included a 1% excise tax on stock repurchases, but the policy does not take effect until January. Logic follows that firms might pull forward buybacks into 2022 to avoid the modest penalty. Could that be a bullish catalyst heading into the usually-strong November-December period? Might it even set up the market for a super-Santa Claus Rally?,” says Christine Short, Vice President of Research at Wall Street Horizon.