2022 has been unkind to equity markets so far which is a big change from what we experienced the last 2 years. The major factor is that the Federal Reserve has gone from being a market tailwind to a headwind as it shifts to combating inflation.
Another concern is that year over year economic numbers look to be weakening due to a combination of tough comps as last year at this time, stimulus checks were hitting people's wallets and impacts from Omicron. Additionally, the zero-Covid policies of many Asian countries are leading to an exacerbation of supply chain issues and port backups which could also feed back into inflation. The combination of a hawkish Fed and increasing concerns about an economic slowdown are a terrible combination for stock prices as the Fed is unlikely to pivot on its stance until much lower prices given the persistence of inflation.
Thus, it's not entirely surprising that the market has been under pressure. At Monday's low, the S&P 500 (NYSE: SPY) was down 14% from it's all-time high set on Jan. 2, while Nasdaq (NASDAQ: QQQ) and Russell (NYSE: IWM) were down even more at 19.2% and 21.4%, respectively. Notably, the latter 2 indices peaked in November of last year.
However, Monday also saw the markets put together an impressive rally from the day's lows. For example, the S&P 500 bottomed around 12 p.m. just above 4,200 and closed above 4,400, nearly a 4% gain in a matter of hours. It was also interesting to see that the most oversold parts of the market had the biggest rallies such as growth stocks and the Russell 2000 which was up more than 6% from its lows.
Of course, it's way too early to tell whether this is just a "bounce" or the start of a new rally. There's compelling evidence on both sides.
The case that this is just a bounce rests on the market typically retesting key levels multiple times before actually bottoming and that there is little change in the major fundamental factors driving the market selloff - concerns of a slowdown in growth and tighter monetary policy. Further, the reversal may have had more to do with options expirations and dealers balancing their books in an oversold market rather than a true change in trend.
The 'this is the start of a new rally' argument would point to the extremes in oversold measures and sentiment that were achieved by the market sell-off. Further, many previous rallies bottomed during or soon after options expiration. They also say that Q4 earnings season has been better than expected with about 75% of companies posting earnings surprises which could be the next catalyst for higher prices.