As we come into the third week of 2022, it's prudent to anticipate some of the bigger picture stories for the stock market so that we can formulate the right strategy.

Usually, the two biggest drivers of stock market returns are earnings growth and interest rates. Currently, the major factor influencing interest rates is inflation so that should be the primary focus.

Earnings Growth

The major reason for the S&P 500's (SPY  ) gain of more than 25% last year was earnings growth which consistently beat expectations. Most notably it was cyclicals, which continue to be priced at very attractive levels, posting blowout earnings across the board.

Despite these impressive results, they are priced as if earnings will deteriorate over the next 12 to 24 months, but economic data is not consistent with this outlook, so this could be one areas that investors should look at especially the industrial sector.

Q4 earnings season won't really start strong until later in January. But as of now, analysts are anticipating 21.4% earnings growth, this is slightly higher than the previous 20.9% earnings growth. Remember what happened in Q3. Analysts were expecting 24% earnings growth entering the quarter but the actual figure turned out to be 40%.

Caution, among analysts, remains pervasive. There's something about human nature that keeps compelling us to bet against a trend rather than simply riding it out. And, we also see it in their estimates for 2022 earnings with the consensus forecast being a 5% earnings increase.


So, much of the inflation dialogue has been centered on the transitory vs structural dispute which is an attempt to forecast the inflation trajectory. Another big topic is that high inflation will force the Federal Reserve to choke the recovery in order to tamp it down.

However, so far inflation has been in the sweet spot. Enough to juice the economy and give companies pricing power but not enough to affect consumer behavior. At some point, persistently high inflation will be bad for equities and the economy.

But, we are currently in the middle stages when this dose of inflation is highly stimulative for corporate profits. It's leading to more pricing power and more demand which of course, turn into higher profits. So far, there is no erosion in margins which is another positive indication.


Everything is lined up for a strong first half to 2022 but it's likely that at that point, things get more rough especially as inflation remains elevated and the economy may finally start slowing. Thus, it's fair to expect that 2022 will see more volatility, big swings, but end the year closer to flat.