Second Quarter 2022 Bear Market: Worst First Half for Stocks Since 1970

By Brian Schaffield   |   July 19, 2022

High inflation, risk of recession, war in Europe, a crypto meltdown, and interest rate increases pushed stocks into a bear market (down over 20% from peak) in Q2 2022

– Bond markets continued the worst drawdown on record, hammered by inflation and higher rates

– Diversified portfolios slammed by simultaneous declines in asset classes

Market Performance: Sharp Declines in All Major Asset Classes

U.S. equities plunged 16.8% in Q2 2020 bringing the total decline for 2022 to 21.1%, officially a bear market. U.S. equities were among the poorest performers globally, worse than emerging or international developed markets, although these too suffered double digit declines. Investors fled risk assets, growth stocks declined twice as much as value, over 22%. Bitcoin declined 58% in the quarter amidst a meltdown in crypto. Bonds reached a record drawdown in June, down 11% in the last year, almost as bad as stocks. Commodities were also lower in Q2 on recession fears, down 6%. Outside of financial assets, U.S. real estate also showed signs of vulnerability in the quarter as mortgage rates spiked to 5.9%. Fed funds rates increased twice in the quarter to 1.5%.

Major Asset Category Index Price Returns for Q2 2022

Returns for diversified portfolios were at a negative extreme of historical results as no asset class provided a positive contribution. Aggressive portfolios lost a further 15% in the quarter on equity exposure but more shockingly, conservative portfolios lost 7% and are now down 12% for the year due to the depth of the fixed income drawdown. Traditional “60/40” portfolios in particular have received negative press with the largest drawdown in decades.

Returns on Diversified Portfolio Indices as of June 30, 2022 Outlook: Inflection Point

Returns for 3-, 5-, 10-, and 15-year periods are annualized
Fed Funds Projections as of June 30, 2022; Grey = Actual; Blue = Projected; Source: FRED Federal Reserve Economic Data 6/2022

With inflation running at 8.6% as of May, the Fed reiterated its commitment to rate increases and quantitative tightening. It is uncertain whether this will tame inflation, cause a recession, both or neither – and upon this rests the present dilemma of financial markets. There are indications inflation may now have peaked although not enough data to forecast a trend. Economists’ views differ widely on the risk of recession. A recent survey found most do not feel a recession is imminent and those that do believe it will be mild. However, a bad recession, stagflation, declines in corporate earnings could push markets significantly lower. Some traders and strategists are still holding out for further declines citing the percentage losses and lack of a cathartic capitulation episode. Markets have at least partially discounted the increase in interest rates and possibility of recession. Corporate earnings are now in sharp focus. Overall, with the current consensus economic outlook of mild recession at most, if at all (which might even prompt the Fed to stop or reduce interest rate increases), the outlook on this bear market so far is consistent with past statistical experiences that average under a year to reach a trough.

Portfolio Implications: Hold, Rebalance, Average Cost Buy

With so much uncertainty about the direction of markets and the economy, whether the stock and bond markets have bottomed out, or if stocks in particular could decline quite a bit further, one fact is that stocks and bonds have declined substantially. This is typically a good period for long-term investors to average cost buy and to rebalance to maintain the same exposure to major asset classes, or at least hold and certainly not to succumb to panic selling.

Brian Schaffield is an investment advisor based in Santa Barbara and has been in the financial industry for 31 years. Nothing in this article serves as the receipt of, or as a substitute for, personalized investment advice.


You might also be interested in...